Opinion - Treat Big Banks like licensed drivers

Bill Knight/WIU Professor

Anyone with a driver’s license – much less with a moving violation – knows that the more you break the rules of the road, the more likely your driving privileges will be taken away. Now a financial adviser has suggested a sensible way to hold accountable the “too big to fail” financial institutions that break the rules again and again: Treat those lawbreakers the same as careless motorists.

Americans distrust Big Banks and Wall Street. A recent study found that the public faith in finance is at its lowest point in more than 40 years. The General Social Survey from the National Opinion Research Council since 1973 has asked people about their confidence in banks and financial institutions, and between March of 2006 and March of 2010, the percent of us with considerable confidence in financial institutions dropped from 30 percent to 11 percent.

There are good reasons for that suspicion.

The federal government fined or settled for millions of dollars for repeated “failures” Bank of America Corp. Citigroup, HSBC Bank, JPMorgan Chase, the Royal Bank of Scotland, and UBS, and they keep “driving” recklessly. Before 1999 – when Congress repealed the Glass-Steagall Act separating commercial and investment banking after seven decades – investment banks were partnerships where every dollar lost came directly from partners’ pockets. Now they can make dubious investments with depositors’ money and even get bailed out with taxpayer dollars.

Further, the financial sector engages in “rent-seeking,” which in economics means spending wealth on lobbying to increase one’s share of existing wealth without actually creating wealth – shuffling assets instead of generating new value.

Researcher Ozgur Orhangazi in the Cambridge Journal of Economics found that “increased financial investment and increased financial profit opportunities may have crowded out real investment by changing the incentives of firm managers and directing funds away from real investment.”

Next, they use risky high-frequency trading, a practice that lets investors make money off millisecond-quick trades. It’s been blasted by Nobel laureate Joseph Stiglitz as a sophisticated scheme to front-run (buying stock just before a pending order to exploit the price increase). Another recent study showed that a one-millisecond advantage can increase a firm’s earnings by $100 million a year. So while roads crumble, bridges deteriorate, and infrastructure nationwide suffer from lack of funds, high-speed traders in 2010 spent $2 billion on their infrastructure – high-speed cables to the New York Stock Exchange.

Also, income inequality is worsened by the financial industry. The International Labor Organization’s Global Wage Report found that the financialization of the economy has been the key factor in the decline of income share going to labor because the financial industry mostly distributes wealth upward.

Ken-Hou Lin and Donald Tomaskovic-Devey of the University of Massachusetts-Amherst in their study “Financialization and U.S. Income Inequality, 1970-2008” echoed that, showing “financialization accounts for more than half of the decline in labor’s share of income, 10 percent of the growth in officers’ share of compensation, and 15 percent of the growth in earnings dispersion between 1970 and 2008.”

One sensible solution would be Democrats’ proposed financial transaction tax, but with Republicans controlling Capitol Hill, that’s about as likely as someone with three DUIs getting a job driving a school bus. The idea has merit – and it’s been discussed since John Maynard Keynes’ 1936 “The General Theory of Employment, Interest and Money.” Suggested in 1989 by Lawrence Summers and Victoria Summers, who said a U.S. Securities Transfer Excise Tax could raise some $10 billion annually, a financial transaction tax is like other taxes on industries that adversely affect the public, like alcohol, cigarettes or carbon emissions. Government doesn’t kill such industries but tries to limit the harm they inflict.

But even a tax or a fine alone can amount to a speeding ticket – another cost of doing business. Unless other consequences follow. That’s where Joseph Fichera, chief executive of the financial advisory firm Saber Partners, comes in.

Writing in the New York Times, Fichera said if the Securities and Exchange Commission (SEC) acted like the Department of Motor Vehicles – suspending or revoking licenses to operate – Big Banks might be more cautious. Drivers may not change their behavior after the first violation, he writes, “but as they near the threshold, they tend to drive more carefully.”

Like the SEC, DMVs regulate behavior through licenses. Unlike the SEC, though, the DMV takes your license away if you break enough rules over a certain period.

“Financial penalties alone will never achieve regulatory goals, but neither will harsh and arbitrary punishment,” Fishera added. “Time-tested and well understood, it would make Wall Street focus on its driving record instead of merely paying off the next traffic ticket, and let regulators focus on the repeat offenders.”

Contact Bill at Bill.Knight@hotmail.com; his twice-weekly columns are archived at billknightcolumn.blogspot.com