gracchusdixit

From the first moment the Dodd-Frank Wall Street Reform Act became law, the Wall Street banks have been trying to delay, weaken, or gut it altogether.  They have yet to acknowledge (or be punished for) the reckless and criminal behavior that led to the financial collapse of 2007-2008.  On the contrary, they have exerted themselves in every possible way to ensure that the very same behavior continues unchecked.  Unfortunately, their efforts have been successful to a scandalous degree.

The latest episode in this scandal occurred last week, when it was revealed that H. R. 992, a new bill designed to amend and water down Dodd-Frank, was largely written by Citigroup.  Even more scandalous than the bill itself is the fact that it was passed without a quibble by an overwhelming majority of the House Finance Committee, many of whom accept hundreds of thousands of dollars in campaign contributions from the very banks they are supposed to be regulating.  Once upon a time, this would have been a blatant example of corruption.  It’s still corruption, but thanks to Congress, it’s now legal.

In the justifiable furor surrounding this episode, most of the attention has been focused on Citigroup and the shameless conflicts of interest that motivated its paid representatives in Congress.  Relatively little attention, however, has been paid to what the bill itself actually does.

Unless you are a lawyer or a lobbyist, this is not easiest thing in the world to figure out, since Congressional legislation is written in a language that doesn’t even remotely resemble plain English.  H. R. 992 is more opaque than most, because it deals with arcane financial activities that few people—even people on Wall Street—truly understand.

Fortunately, H. R. 992 is short—a mere five pages—and it deals with just one of the hundreds of sections in the original Dodd-Frank bill.  That section, however, is absolutely vital.  The Section is 716, and its title is: “Prohibition against Federal Government bailouts of swaps entities.”

A “swap” is one of several forms of “derivative”—a financial instrument that has no value by itself.  Think of swaps and other derivatives as chips on the baize cloth of a roulette table.  The chips mean nothing until it’s time to collect or pay up.  Until that moment arrives, the gamblers get to keep playing.

Derivatives are used by Wall Street to repackage questionable assets, hedge investments and make speculative bets on a host of things: movements in currency prices, interest rates, and so on.  Because they are traded over-the-counter and for the most part privately, derivatives are difficult to value and almost impossible to regulate.  This makes them risky but also very profitable for the banks that engage in them—as long as somebody else assumes the risk.

That is what happened in 2007-2008, when “swaps” played a primary role in the financial collapse.  In essence, the major Wall Street banks made a series of very big, very bad bets.  When they lost those bets, trillions of dollars went up in smoke.  The Federal Government was forced to step in not only to save the banks themselves from going up in smoke but to preserve the savings of millions of investors who had no idea what the banks had been doing with their money in the first place.

Section 716 of Dodd-Frank was designed to prevent such a bailout from ever happening again.  It states unequivocally: “No Federal assistance may be provided to any swaps entity with respect to any swap, security-based swap, or other activity of the swaps entity.”  Section 716 exempts only “insured depository institutions” from this prohibition, because such institutions have to meet tough standards and are strictly regulated.

H. R. 992 changes all that.  It replaces the phrase “insured depository institution” with much looser language.  It allows uninsured bank branches and even foreign banks to receive Federal assistance.   It so broadens the definition of allowable “swap” activities that just about any bad bet can now expect to be indemnified by the government.

Nearly a century after the speculative crash that plunged us into the Great Depression, merely five years after the collapse of the speculative bubble that almost caused a second Great Depression, we seem to have learned nothing.  Nobody knows when the next bust will come.  But we do know this: thanks to Citigroup and its friends in Congress, the next bust will be followed by another bailout.  The traders and executives on Wall Street will get to keep their millions.  You and I will be stuck with the bill.