Whale Watching for Market Makers and their Congressional Allies

Occupy Wall Street bankersPrevious posts have highlighted cooperation from the Republican Congressional representatives from Nevada with the Wizards of Wall Street.  While press attention has been focused on the Anti-Choice, Anti-Women’s Rights activities of the Grand Old Party (as well it should) there’s another attack on the American middle class which is part and parcel of the bills the House GOP is pushing to gut the Dodd-Frank Act, and the Sarbanes-Oxley Act.   The Sarbanes-Oxley Act was passed in the wake of the collapse of Enron, and the illumination of the morass of highly questionable dealing as a result.  The Dodd-Frank Act was enacted after the financial collapse of the Housing Bubble and related mortgage derivative machinations.

Both acts were designed with protecting the American economy in mind, and with protecting investors from the miscreants who would gamble away inconceivable amounts of money in bets, wagers, and side bets on any transaction which might be securitized.   Corporations, and their Wall Street allies, would very much like to be rid of both statutes.

These acts are more necessary than ever, and the “convenience” of the investment houses and the “profitability” of the Big Banks and their investment operations ought not to be the prime mover behind legislation considered by our Congress.  However, in making the case for deregulating the financial markets — yet again — Wall Street and the GOP have carefully tended some garden variety myths.

Three Myths and Wall Street Legends

Myth One: Job creation is the result of unrestricted investment.”   In a highly generalized sense, investment is supposed to be made in business enterprises, and the expansion or creation of those enterprises is supposed to create jobs.  That was then — This is now:  When “investment” comes to mean little more than paper shuffling with Big Bank A investing in the derivatives “market” in order to achieve a better revenue stream from its “positions,”  less is invested in entrepreneurial activities — unless those start ups happen to be hedge funds.   But! What of the investment in American “manufacturing?” Ernst & Young’s capital investment report for 2011 (pdf) tells us that 60% of announced capital investments were in manufacturing.

Now, keep reading the report — where were those investments made?  Natural gas, oil and gas extraction, petroleum, and chemical manufacturing were the most “capital intensive” during 2011.  The second chunk of the capital investment pie went to automobile manufacturing.  Remember those cries of “let’em go bankrupt?”  Jokes about “Government Motors…”  Those who anguished over the “government take over of the auto industry” have some explaining to do, not that we’ll ever hear it.  The third largest sector of manufacturing growth continues to be in high tech operations like semi-conductors.   Finally, investment in alternative energy sources (solar and wind) are another part of capital investment trends, with about 20% of mobile capital heading in that direction.

Job creation is a function of capital investment — IF the capital is invested in the kinds of projects listed in the E&P report.  If, trends in shadow banking activities continue, then much capital is siphoned off into the Great Paper Shuffle which does NOT create jobs outside the financial sector.

We might also look at what is NOT in the E&P report — where’s the investment in American manufacturing of common retail products? In furniture? Appliances? Pharmaceuticals? Textiles? An internationalist would argue that American wages are too high, and that investment in Chinese, South East Asian, or other factory locations is “good” for the global economy.  The argument is thin cover for a race to the bottom of the wage scales.  The physical reality may be in the photographs taken in the aftermath of the Bangladeshi factory collapse?

Myth Two: “All investment is created equal.”  Not if we’re talking about job creation.   Money flowing into and around the Shadow Banking System isn’t all that helpful for the accumulation and distribution of mobile capital for manufacturing investment.  What is this Shadow Banking System?  The Financial Stability Board explains (pdf):

The “shadow banking system” can broadly be described as “credit intermediation involving entities and activities outside the regular banking system”. According to one measure of the size of the shadow banking system , it grew rapidly before the crisis, from an estimated $27 trillion in 2002 to $60 trillion in 2007, and remained at around the same level in 2010. The term started to be used widely at the onset of the recent financial crisis, reflecting an increased recognition of the importance of entities and activities structured outside the regular banking system that perform bank-like functions (“banking”). These entities and activities provide credit by themselves or through a “chain” that transforms maturity or liquidity, and builds up leverage as in the regular banking system. They also typically rely on short-term funding from the markets, such as through repos and asset-backed commercial paper (ABCP).”

Who are the players? Hedge funds, commercial banks, money market funds, and “structured investment vehicles.”    And, yes, that’s $60 Trillion, with a T.   There’s a problem with the Shadow Banking System — encapsulated in the term “short term funding.”  Shadow operation face some of the same issues as regular banking functions, like liquidity problems, market risks, and credit risks. Add the short term financing of these “markets” and we have a classic recipe for volatility.   That is, when bankers are doing little except “making markets” — i.e. finding someone to take the “other side” of a deal — that’s money NOT flowing into mobile capital investments in manufacturing — unless, of course, we call “manufacturing of paper documents” manufacturing.  That’s a real stretch.

So, no — all investments are not created equally, and not all activities which might be categorized as investments do much of anything to create real economy jobs — just more lines of revenue for investors.

Myth Three:  “Everyone’s invested in the market.”  Noticed a little something in the last few years? Remember the old maxim that if the stock market went up then the bond market went down?  The reason for the quirks in the system at the present is that the equities market is all but controlled by professional investors. [USAT]  What about all those little people sitting out there in the dark with their money market funds, their 401(k)’s?

About 52.5% of Americans have some form of investment in mutual funds.  Of this number about 46% are baby-boomers.  They are, for the most part, well educated, and earning over $80,000 per year.  They participate in employer sponsored retirement programs and may often have their own, independent, mutual fund account with a broker.   Only about 24% of those born between 1965 and 1976 have IRA, or other forms of mutual fund accounts, and those born before 1946 constitute only 18% of the investors in mutual funds.  [ICI.org]

While the percentage indicate a bit more than half the citizens of the U.S. have some form of mutual fund account (either employer managed, independent, or both),  saying that “everyone” is invested in the stock market is to warp the view.  The funds are primarily for retirement purposes, and they are managed by professional investors.

That second percentage should raise some alarm bells — that only 24% of those between the ages of 48 and 37 are involved in some form of mutual fund accounts says that someone doesn’t have the wherewithal to hold  investment accounts.  If mutual funds are the most common form of investment (IRA, 401(k), etc.) and only 24% of those who are at least within 17 years of a retirement at age 65 have such accounts this could be a problem later down the line?  If we add up the categorizations included in the ICI fact sheet we come up with 88% — leaving 12% who are in age groups under 37.  So, while it might be true that most middle aged, financially secure households, have mutual fund investments, it’s not true that “most” people have mutual fund accounts.

The Play Book

Blocking: H.R. 1840, introduced by Rep. Conaway, (TX-11) in the 112th Congress to make the CFPB run a cost benefit analysis on all rules to insure the “least possible burden” on investment firms.  The bill would triple the number of factors required for study, and was intended to stifle rule making by the CFPB.   This particular bill didn’t get out of the House, but it wasn’t for lack of trying.

Rep. Scott Garrett (NJ-5) thought his “Swap Execution Facility Clarification Act” H.R. 2586 would have been a good idea in the 112th.   “HR 2586 would actually prohibit regulators from requiring publicly accessible posting of bid and offer prices on derivatives exchanges.” [AFR]  This isn’t exactly the transparency the public is looking for in the wake of the Housing Bubble mess.  Fortunately, this bowing and scraping to the trading desks also failed to emerge from the House.

But wait, there were more!  Rep. Stivers (OH-15) introduced H.R. 2779 (112th) to exempt inter-affiliate swaps from federal regulation.  This one did pass the House (roll call 127).  Nevada Representatives Amodei (R-NV2) and Heck (R-NV3) voted in favor of this bill, which died in the U.S. Senate.  As it should have.

And more. How about protecting consumers from credit exposure from derivatives trading?  Rep. Michael Grimm (NY-13) tried this end run around the regulations regarding credit exposure from derivatives trading risks in his introduction of H.R. 2682.   This, too, failed — but they keep trying.

And more, we should give Rep. Randy Hultgren (IL-14) credit for the creative title to H.R. 3527, the “Protecting Main Street End-Users From Excessive Regulation,” because there isn’t much for Main St. in this bill.  The bill would, “Directs the CFTC to exempt from designation as a swap dealer an entity that enters into swap dealing transactions with or on behalf of its customers if the aggregate gross notional amount of the outstanding swap dealing transactions entered into over the course of the preceding calendar year does not exceed $3 billion (or a greater amount, as market conditions warrant), adjusted for inflation.”   Just exactly what Main Street wanted for Christmas, right??

And more…fast forward to March 2013 and the House is at it again.

“On Wednesday, however, Republicans and Democrats on the House Agriculture Committee approved seven bills that would roll back parts of the Dodd-Frank financial regulations. The bills will now proceed to a floor vote.

So what do these measures do? They weaken Title VII of Dodd-Frank, which is the part that regulates derivatives. Since Dodd-Frank, there’s been an extensive amount of debate about the new rules for derivatives, which range from collateral to price transparency. But there has also been a counter-debate about who has to follow the new rules. Those who fall under “end-user exemptions” are largely able to forgo following the Dodd-Frank rules, and the easiest way to understand the bills passed out of the Agriculture Committee is to note that they seek to expand the scope of those exemptions.” [WaPo]

The article continues with the specifics of how the proposals from the Republican controlled House of Representatives would chop back the regulations for swaps and derivatives trading — back to those Good Old Days of the Housing Bubble and Mortgage Mess.   If this is beginning to sound like a replica of the 37 House votes to repeal the Affordable Care Act and Patients Bill of Rights, and the innumerable bills to restrict a woman’s right to choose her medical treatments… Yes, the House will continue its attempts to decimate the Dodd Frank Act and its financial regulatory reforms.  Further, if you believe that any of this has anything to do with “Main Street USA,” I have some potential beach front property in Nevada for you.

We’ve revisited the current H.R. 1135, a bill to put executive compensation back into the caliginous depths of pure opacity; and H.R. 1564, an act to return to those wonderful old days of Love and Lust among the Corporations and their Auditors.

End Game

As we’ve seen from the examples from the 112th and the 113th Congress, there is no end to the number of Representatives who are ready and willing to create fanciful titles for bills which would gut both the Dodd Frank Act and the Sarbanes-Oxley Act — for the benefit of Wall Street traders and their companies.

It would be nice to say that Wall Street has learned its lesson from the debacle it created in 2008 — but that would be to ignore the London Whale in the corner.

Sometimes it feels like it would be easier to ignore the Elephants in the Congress than it is to avoid the Whale in the financial markets? We’d do both at our peril.

Comments Off on Whale Watching for Market Makers and their Congressional Allies

Filed under consumers, Economy, financial regulation

Comments are closed.