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Obama to Propose Limits on Risks Taken by Banks

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donsutherland1

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The New York Times reported:

The president, for the first time, will throw his weight behind an approach long championed by Paul A. Volcker, former chairman of the Federal Reserve and an adviser to the Obama administration. The proposal will put limits on bank size and prohibit commercial banks from trading for their own accounts — known as proprietary trading...

Mr. Volcker flew to Washington for the announcement on Thursday. His chief goal has been to prohibit proprietary trading of financial securities, including mortgage-backed securities, by commercial banks using deposits in their commercial banking sectors. Big losses in the trading of those securities precipitated the credit crisis in 2008 and the federal bailout.
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Obama to Propose Limits on Big Banks - NYTimes.com

IMO, this is a potentially important and welcome development for a number of reasons:

1. Human nature, being what it is, assures the temptation to pursue large risks will not dissipate.

2. In spite of the financial crisis and deep recession that occurred from the collapse of the housing bubble, stunning little has changed in the financial sector. Failure to change includes:

Little sign of fundamental improvements to risk management. A lack of credit growth due to financial constraints and fear has provided the biggest check to risky practices, but once the fear dissipates the underlying risk management framework remains essentially the same

1. Little evidence that the financial sector is giving substantially greater consideration to history relative to modeling in its risk management practices, even as risk is largely a human nature/behavior + firm/industry structure & linkages problem

2. The failure to junk, dramatically revise, or narrow the focus of the use of models, including but not limited to VaR (value-at-risk), that performed poorly during the crisis and failed to flag important risks ahead of the financial crisis and, according to some noted economists e.g., Nobel Laureate Joseph Stiglitz, actually amplified risks. IMO, VaR can and should play a modest role in understanding risk, but it should not be the full or even largest answer to understanding risk. In effect, it could offer one set of scenarios, but other methods, including a rigorous and continuing assessment of history and structure, should be a regular part of any robust and dynamic risk management system that incorporates new lessons and evolves as industry and linkages evolve. Such an approach would require more human and financial capital, but the financial crisis is just the latest such event to demonstrate that risk management cannot be completely automated, models (simplifications themselves) cannot provide the whole answer to understanding risk, and models should guide but not replace human judgment when it comes to managing risk.

3. Bonuses being awarded as a share of revenue not profits in several financial sector firms, in effect rewarding top line growth even if bottom line growth is sacrificed or does not materialize during the compensation period. Down the road, such behavior would lead to a renewed acceleration of credit growth and decline in credit standards.

4. A Continuing mismatch between bank insurance premiums and the size/risk of such institutions. IMO, just as risk scales with firm size, insurance premiums should scale with size so as to provide a better match between future costs to the insurance fund and a firm's risk.

5. Absence of accounting reform, to date, that would largely eliminate practices that keep risk off the financial statements, require the grossing of derivatives exposures on the balance sheet, and new financial sector presentation introduced by several accounting professors that would require differentiating between actual outcomes and forecasted outcomes (that's a technical detail that goes beyond the scope of this message, but suffice it to say valuations of certain items are really forecasts based on the assumption that the cash amounts will be realized as they are stated), etc.

All said, I believe the Volcker approach contributes toward a regulatory structure that would address the financial sector risk/risk management environment as it actually exists, not the idealized idea that predated the rise of the housing bubble prior to the financial crisis.
 
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The big banks were the ones that survived and were around to take over Bear stearns and countrywide (failed, but not banks). Trading has in fact helped the big banks out of the jam. The real losses were in insurance and autos (not banks). The banks having the most trouble now are small community banks, the thing obama wants to turn the big banks into.This is just populism by a desparate president with no coattails who thinks he found a scapegoat.
 
donsutherland1 said:
The New York Times reported:



Obama to Propose Limits on Big Banks - NYTimes.com

IMO, this is a potentially important and welcome development for a number of reasons:

1. Human nature, being what it is, assures the temptation to pursue large risks will not dissipate.

2. In spite of the financial crisis and deep recession that occurred from the collapse of the housing bubble, stunning little has changed in the financial sector. Failure to change includes:

3. Little sign of fundamental improvements to risk management. A lack of credit growth due to financial constraints and fear has provided the biggest check to risky practices, but once the fear dissipates the underlying risk management framework remains essentially the same

4. Little evidence that the financial sector is giving substantially greater consideration to history relative to modeling in its risk management practices, even as risk is largely a human nature/behavior + firm/industry structure & linkages problem

5. The failure to junk, dramatically revise, or narrow the focus of the use of models, including but not limited to VaR (value-at-risk), that performed poorly during the crisis and failed to flag important risks ahead of the financial crisis and, according to some noted economists e.g., Nobel Laureate Joseph Stiglitz, actually amplified risks. IMO, VaR can and should play a modest role in understanding risk, but it should not be the full or even largest answer to understanding risk. In effect, it could offer one set of scenarios, but other methods, including a rigorous and continuing assessment of history and structure, should be a regular part of any robust and dynamic risk management system that incorporates new lessons and evolves as industry and linkages evolve. Such an approach would require more human and financial capital, but the financial crisis is just the latest such event to demonstrate that risk management cannot be completely automated, models (simplifications themselves) cannot provide the whole answer to understanding risk, and models should guide but not replace human judgment when it comes to managing risk.

6. Bonuses being awarded as a share of revenue not profits in several financial sector firms, in effect rewarding top line growth even if bottom line growth is sacrificed or does not materialize during the compensation period. Down the road, such behavior would lead to a renewed acceleration of credit growth and decline in credit standards.

7. A Continuing mismatch between bank insurance premiums and the size/risk of such institutions. IMO, just as risk scales with firm size, insurance premiums should scale with size so as to provide a better match between future costs to the insurance fund and a firm's risk.

8. Absence of accounting reform, to date, that would largely eliminate practices that keep risk off the financial statements, would require expensing of stock options and other instruments that dilute shareholder wealth, grossing of derivatives exposures on the balance sheet, and new financial sector presentation introduced by several accounting professors that would require differentiating between actual outcomes and forecasted outcomes (that's a technical detail that goes beyond the scope of this message, but suffice it to say valuations of certain items are really forecasts based on the assumption that the cash amounts will be realized as they are stated), etc.

All said, I believe the Volcker approach contributes toward a regulatory structure that would address the financial sector risk/risk management environment as it actually exists, not the idealized idea that predated the rise of the housing bubble prior to the financial crisis.
Click to expand...


Great post. But I wonder how they propose differentiating the money from the deposit VS other sort of revenue?
 
I believe that id you are unwilling to take financial risks you are doomed to making less profit.

However Obama and the rest of the Liberal progressives need to but out of business at every level other than to tall them go ahead and continue as you have in the recent past putting your business at risk of bankruptcy, but know that if you fail you are on your own there will be no more bailouts.

The free enterprise is at risk from Obama and that is a bigger threat than bank failures. When banks know they have to be responsible or sink they are more likely to be responsible and that is true of any business.

If you were around in the 70s to see how Detroit ignored the trend to smaller more efficient cars until they were forced to you will know that the minute they could the Big Three went back to big gas hogs and in the mean time Toyota kept making good cars and trucks and now are #1 not GM, who still isn't doing it right but lost control to Obama the UAW anf they will die on the vine now as they should have done already for bad business decisions.
 
Two quick points:

1. My preference would still be to create scalable insurance premiums and bring full disclosure to accounting (largely eliminate keeping risks off the financial statements, requiring the grossing of derivatives exposures, expensing stock options and other dilutive measures, and providing robust sensitivity analysis in the notes to the financial statements).

2. The Volcker approach is a fallback.
 
Now wait, wasn't PBO just complaining a few weeks ago about banks not making enough loans?

This is some dumbass regulation in the making.
 
Just another way to interwine government into the banking process. Obama isn't satisfied that banks are paying back the bailouts, plus interest. Now, he wants to tax them further AND limit their ability to be a privately-run bank.
 
Here's an idea...

....tell the banks that the taxpayers aren't backing up their games, and if the bank takes a risk, it's taking a risk with it's own money.

Eliminate Fanny-Mae and Freddie-Mac and return to a capitalist banking system.

It's amazing how cautious banks can be when it's their own money at risk.

And when a bank fails, it doesn't drag the whole country down with it.

Socialism....always a damn ignorant idea.
 
underdog334 said:
The big banks were the ones that survived and were around to take over Bear stearns and countrywide (failed, but not banks). Trading has in fact helped the big banks out of the jam. The real losses were in insurance and autos (not banks). The banks having the most trouble now are small community banks, the thing obama wants to turn the big banks into.This is just populism by a desparate president with no coattails who thinks he found a scapegoat.
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I disagree. The big banks survived because of the Bush-Obama bailouts. These new regulations are the first step in restoring the type of Glass-Steagal regulation that was removed by government, via Gramm-Bliley, and once again walling off sectors of the financial markets from each other, so that one sector does not take the other sectors down with it if it fails.
 
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I agree with this move.

Even in light of the bailouts, banks are not showing us that they are changing their risk management. Do we want another recession down the road?

If limits are placed on risk, those limits will transmit down to the banker, which means more restrictions on loans. It will make banks consider their clientele more carefully. If there are signs you can't sustain your mortgage payments, then you don't get a mortgage. That's how it should be anyway.

As for business... one of the reasons why these regulations didn't come into play in the first place was because government doesn't want want to 'hurt business'. Businesses should not get support for being businesses; they should be subject to the tide of the market like individuals are. If you have poor business practice or your industry is phasing out, then why should you get loans or huge subsidies to keep afloat? Banks should not be giving out loans to people or businesses which clearly can't succeed.

If risk management in the U.S. is not improved, then other nations should gradually shift away from the U.S. currency standard. I understand that the U.S. dollar was popularized in the cold war, but without a central bank to actually attempt to balance capitol assets vs. currency, I don't see how it has long term fortitude. (I know this is separate from the risk management issue, but is still important nonetheless.)
 
Well, the markets hate it. Down to 9000 we go....soon.
 
donsutherland1 said:
The New York Times reported:



Obama to Propose Limits on Big Banks - NYTimes.com

IMO, this is a potentially important and welcome development for a number of reasons:

1. Human nature, being what it is, assures the temptation to pursue large risks will not dissipate.

2. In spite of the financial crisis and deep recession that occurred from the collapse of the housing bubble, stunning little has changed in the financial sector. Failure to change includes:

3. Little sign of fundamental improvements to risk management. A lack of credit growth due to financial constraints and fear has provided the biggest check to risky practices, but once the fear dissipates the underlying risk management framework remains essentially the same

4. Little evidence that the financial sector is giving substantially greater consideration to history relative to modeling in its risk management practices, even as risk is largely a human nature/behavior + firm/industry structure & linkages problem

5. The failure to junk, dramatically revise, or narrow the focus of the use of models, including but not limited to VaR (value-at-risk), that performed poorly during the crisis and failed to flag important risks ahead of the financial crisis and, according to some noted economists e.g., Nobel Laureate Joseph Stiglitz, actually amplified risks. IMO, VaR can and should play a modest role in understanding risk, but it should not be the full or even largest answer to understanding risk. In effect, it could offer one set of scenarios, but other methods, including a rigorous and continuing assessment of history and structure, should be a regular part of any robust and dynamic risk management system that incorporates new lessons and evolves as industry and linkages evolve. Such an approach would require more human and financial capital, but the financial crisis is just the latest such event to demonstrate that risk management cannot be completely automated, models (simplifications themselves) cannot provide the whole answer to understanding risk, and models should guide but not replace human judgment when it comes to managing risk.

6. Bonuses being awarded as a share of revenue not profits in several financial sector firms, in effect rewarding top line growth even if bottom line growth is sacrificed or does not materialize during the compensation period. Down the road, such behavior would lead to a renewed acceleration of credit growth and decline in credit standards.

7. A Continuing mismatch between bank insurance premiums and the size/risk of such institutions. IMO, just as risk scales with firm size, insurance premiums should scale with size so as to provide a better match between future costs to the insurance fund and a firm's risk.

8. Absence of accounting reform, to date, that would largely eliminate practices that keep risk off the financial statements, would require expensing of stock options and other instruments that dilute shareholder wealth, grossing of derivatives exposures on the balance sheet, and new financial sector presentation introduced by several accounting professors that would require differentiating between actual outcomes and forecasted outcomes (that's a technical detail that goes beyond the scope of this message, but suffice it to say valuations of certain items are really forecasts based on the assumption that the cash amounts will be realized as they are stated), etc.

All said, I believe the Volcker approach contributes toward a regulatory structure that would address the financial sector risk/risk management environment as it actually exists, not the idealized idea that predated the rise of the housing bubble prior to the financial crisis.
Click to expand...
i thought expensing of stock options was already required?

as a bank employee, i welcome tighter regulations. thanks.
 
Erod said:
Just another way to interwine government into the banking process. Obama isn't satisfied that banks are paying back the bailouts, plus interest. Now, he wants to tax them further AND limit their ability to be a privately-run bank.
Click to expand...

Could you explain how consumer protections "limit their ability to be a privately-run bank"?


Banks have grown but they haven't build a better mouse trap. They do well for themselves and their upper-tier employees, but what type of innovations have they brought to savings and lending? Late fees. Transfer Fees. Minimum balance fees. ATM Fees? Because depositing our money in their vaults and using their credit cards at 29.99% isn't enough.:roll:
 
Ain't no one sticking a gun to your head to use any credit card.
 
Harshaw said:
Ain't no one sticking a gun to your head to use any credit card.
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No, but they are sticking the proverbial gun to your head when they double the interest rate, and retroactively apply it to purchases you already made.
 
Harshaw said:
Ain't no one sticking a gun to your head to use any credit card.
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That's a pretty feeble argument, considering that many normal activities in modern society now require a credit card.

Banks have every right to incentivize timely payments and responsible use, however usury used to be considered a crime -- An excessive or illegally high rate of interest charged on borrowed money.

People in debt are more cooperative, less likely to complain at work, etc.
 
Erod said:
Just another way to interwine government into the banking process. Obama isn't satisfied that banks are paying back the bailouts, plus interest. Now, he wants to tax them further AND limit their ability to be a privately-run bank.
Click to expand...

Limiting their risk exposure is important so that we don't face the same situation again a few years down the road when the NEXT crisis hits, and we have to bail them out all over again.
 
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Im not sure If I agree with Obamas approach but I agree something needs to be done. The free market is one area I disagree with the right on simply because we have no "free" market. It has become as corrupt as washington thanks in a large part to washington. The banking sector is just one aspect that needs a overhaul from the bottom up. I read an article recently that stated that if you allocated all the wealth in the world that 3/5's of it is based on absolutly nothing. Its all a numbers game that starts in the banking sector. The banking sector is allowed to purchase items with no hard capital to back it up. This in a large part has led to many of our recent issues. Its all a shell game and when it goes wrong we all pay for it.
 
Scarecrow Akhbar said:
Here's an idea...

....tell the banks that the taxpayers aren't backing up their games, and if the bank takes a risk, it's taking a risk with it's own money.

Eliminate Fanny-Mae and Freddie-Mac and return to a capitalist banking system.

It's amazing how cautious banks can be when it's their own money at risk.

And when a bank fails, it doesn't drag the whole country down with it.

Socialism....always a damn ignorant idea.
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Exactly. Obama wants to treat symptoms and ignore problems.
 
Scarecrow Akhbar said:
It's amazing how cautious banks can be when it's their own money at risk.
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I'm really not sure what you're talking about here. The historical evidence certainly doesn't support that theory. Banks have always taken completely irrational risks, long before government occasionally bailed them out.

Scarecrow Akhbar said:
And when a bank fails, it doesn't drag the whole country down with it.
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That's what happens if you DON'T bail them out in extreme circumstances. They all owe money to each other. So when there is a systemic problem and one bank collapses, all of its creditors have to write off that debt which weakens THEIR financial position. Then the weakest links among THEM collapse, and the process begins anew.
 
Scarecrow Akhbar said:
Here's an idea...
Click to expand...

Uh-oh... I should stop reading right there, given the poster... But I can't help myself...

....tell the banks that the taxpayers aren't backing up their games, and if the bank takes a risk, it's taking a risk with it's own money.
Click to expand...

Um... Where do banks get their money? (Hint: Not the ATM)

Eliminate Fanny-Mae and Freddie-Mac and return to a capitalist banking system.
Click to expand...

"Return to"... you say? Didn't realize we had left. And exactly how does Fanny and Freddie relate to this 'returning to'... In your mind?

It's amazing how cautious banks can be when it's their own money at risk.
Click to expand...

Next time you make a deposit, you be sure to tell the banker that your money is not to be loaned out to anyone, and they should only loan their own money out.

And when a bank fails, it doesn't drag the whole country down with it.
Click to expand...

I think that's the general idea... Consumer protections that minimize the investors/depositors exposure to high-risk securities.

Socialism....always a damn ignorant idea.
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Public education, emergency services, and the postal service... Toss 'em all out, right, Scarecrow?


You seem to be confused about how banks, stockbrokers, and insurance companies actually get the money to invest. (Hint: It's not the ATM.)
 
Based home mortgage loans on a single household income for married couples for their primary residence.
 
Scarecrow Akhbar said:
Here's an idea...

....tell the banks that the taxpayers aren't backing up their games, and if the bank takes a risk, it's taking a risk with it's own money.
Click to expand...

So long as such institutions do not depend on government for any direct or indirect support e.g., they cannot depend on FDIC insurance on the deposits they hold or the Fed's myriad facilities for liquidity, I would have no objection.

However, it is not very likely that the major banks would be willing to forego deposit insurance and access to the Fed window even as they would like to be free to take risks that could trigger harm to taxpayers via use of the FDIC insurance fund or Fed intervention.

Eliminate Fanny-Mae and Freddie-Mac and return to a capitalist banking system.
Click to expand...

I believe both those institutions should be cleaned up, broken into small pieces, and then those small pieces privatized. It should also be abundantly clear that the federal government would not back the paper of such successor organizations.

It's amazing how cautious banks can be when it's their own money at risk.
Click to expand...

That is exactly why financial institutions should not be leveraging their own investments using funds that are directly or indirectly tied to taxpayer support.

And when a bank fails, it doesn't drag the whole country down with it.
Click to expand...

If funds tied directly or indirectly to taxpayer support e.g., deposit insurance, were segregated from all other funds, then when a major financial institution collapsed, there would not be a cascading impact that would lead to the kind of bailouts that occurred during the most recent financial crisis. In other words, funds that are FDIC insured for funds that originate from FDIC insured institutions should be segregated. A firm's own capital above and beyond those funds should be permitted to be invested as the firm sees fit. However, I suspect that the financial institutions want government to stay out of all of their investment decisions and, at the same time, want the benefits of taxpayer support for their deposits/access to Fed facilities should their investment decisions backfire.
 
liblady said:
i thought expensing of stock options was already required?

as a bank employee, i welcome tighter regulations. thanks.
Click to expand...

Liblady,

I stand corrected. After 2005, stock options were to be expensed.
 
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