POLITICS
Miscellaneous Thoughts Posted to Linked In Between October and December 2017
By William J. Dodwell
After nearly a year in office, Trump has demonstrated two particular truths. One is that a good president does not have to be a towering intellect with a silver tongue, or even close. Secondly, he showed the primacy of courage in effecting necessary change as he bucked the establishment, rejected protocol, defied political correctness, and challenged the media for their vilifying lies and propaganda. And he does it in the face of intense opposition in Congress and the deep state bent on his impeachment. Trump is to be applauded for his support for tax cuts and deregulation as agents for economic growth, for conservative judicial appointments, for sovereignty through a secure border and controlled immigration, for a strong military, and for continuing America’s preeminence. His success in already implementing some related policies renders decorum ancillary. Rather, it was his courage that won the day. Indeed, the importance of this presidential requisite is a new realization, particularly when viewed in stark contrast to his feckless predecessor.
Examples of Trump’s courageous acts include: 1) Withdrawing from the Paris Climate Accord; 2) Bombing Syria for using chemical weapons; 3) Committing to moving the American embassy in Israel to Jerusalem; 4) Speaking bluntly about and to North Korea; 5) Arming Ukraine against the Russians; 6) Insisting that NATO members pay their fair share; 7) Calling for a selective Muslim travel ban; 8) Starting the process of building a wall on the southern border; 9) Unconditionally destroying ISIS in Syria and Iraq; 10) Cutting the U.S. United Nations budget; and 11) Substantially nullifying Obama’s legacy through executive orders. All this demonstrated a degree of courage not seen in modern times, not even by Reagan and Truman. Trump’s trade policy, dubious to some conservatives, at least showed backbone in his withdrawal from the Trans-Pacific Partnership (TPP) and in the renegotiation of NAFTA on the ground that fair trade must accompany free trade. Is Trump’s trade posture motivated by private knowledge of surreptitious redistributionist concessions of previous administrations imbedded in trade agreements influenced by globalist forces?
The “Never Trumpers” forever lament the impurities of his conservatism. But making the perfect the enemy of the good is impractical. I support their call for a new conservative party to supplant the Republican establishment. But it has to be an incremental undertaking that gradually changes the traditional paradigm while improving the status quo. Trump has begun to do that. To be sure, it’s no more Mr. Nice Guy. Nor should it be. 12/26/17
https://sites.google.com/site/thecomprehensiveconservative/special-notice
12/19/17
The irony of this undistinguished person having such access to the president is rich. Let’s face it. Trump brought Omarosa into his orbit solely because she is black. He hired this utterly talentless individual for his “Apprentice” television series doubtless out of diversity considerations. Later he gave her a campaign role and a make-work job in the Administration to reach out to the black community. Omarosa claims she contributed to Trump’s surprisingly high black vote (8%) in 2016 and on that basis, as well as because of her long “relationship” with Trump, she felt she could take unlimited liberties.
She reportedly wandered freely around the Whitehouse, reminiscent of JFK’s toddler son, John John, in the Oval Office. According to reporter April Ryan, this proverbial “angry black woman” (my appellation) was forcibly removed literally kicking and screaming upon her firing by Chief of Staff John Kelly. Her denial of this dramatic exit on Good Morning America demonstrated her terrible acting skills. By many accounts she is despised by those she worked with over the years. This kind of person could be dangerous.
Katrina Pierson, the savvy black woman who performed so ably as Trump’s national spokesperson during the campaign, would have been a much better diversity pick in a suitable role. And given her capabilities, she would be no token hire. But she seems to have disappeared after supposedly declining Sean Spicer’s offer to be Deputy Communications Director. (Security clearance problems?) 12/18/17
Fox News has been a disgrace in its capitulation to the sexual harassment movement. Forced by legal settlements “to clean up its act”, the network has completely chickefied itself gratuitously assigning women to numerous anchor spots and other prominent positions. Fox is advertising its conversion. Did you hear Sean Hannity brag about how big and beautiful Laura Ingraham’s new set is? Fox has caved and they are desperate to let everyone know it. The network was clearly ok with Republicans losing a vital senate seat over unsubstantiated allegations wrapped in a left-wing propaganda campaign. Once again I say, we need a new conservative network to replace Fox. 12/13/17
As if on cue, the Sunday papers report a raft of accounts from accusers. One front page story features an 82 year old woman who says she still suffers from a suitor’s pursuit 34 years ago, then in her late forties, for which official recourse was not available. She said, “I was defeated. I lost my identity and my self-esteem. It took a long time to get it back … I’m still not sure that I have.” Geez! And weaklings like this expect equality with men? Gimme another break! Is there any wonder why men have dominated humanity since inception? The media promote the notion that sexual harassment is pervasive and serious. It is neither. In 40 years working on Wall Street I never witnessed a case, and do not readily recall ever hearing of an incident.
The fundamental questions should concern whether the accusations are true, and whether they are serious. Surely, many claims are lies and exaggerations to cash in or to exact revenge. Others try to influence elections. Consider the forgery of Roy Moore’s yearbook signature perpetrated under the auspices of ethically-challenged feminist Gloria Allred. And what defines serious misconduct to warrant costing one’s job, career, reputation, and possibly life savings, especially when only alleged? The general public does not believe a grope qualifies as sexual harassment, certainly not a previously unreported one that occurred decades ago. To my mind, anything short of rape or assault should be worked out among the woman, her aggressor and immediate authorities, regardless of how relatively offensive an act might be. No lawyers necessary. By that standard neither Franken nor Conyers should have resigned, despicable as they are politically. But as a practical matter they had to leave because their party drummed them out of the corps to promote a larger agenda.
Of course, it’s about more than just sexual harassment. The issue is about the political and economic exploitation of the act to empower women by disempowering men according to feminist tactics. In the process, the left sacrifices some of its own through forced resignation to achieve the high ground by which to demand the same of opponents on the right. This makes the issue seem nonpartisan and thus gives it more currency. At the same time, the right foolishly goes along out of fear of provoking a media backlash, inviting lawsuits, and losing women votes. We saw Republicans and conservatives retreat en masse last year in the wake of the Access Hollywood tapes of candidate Donald Trump. They also caved following Congressman Todd Akin’s innocuous remark about rape during his 2012 senate race in which he was leading in the polls. To his credit, President Trump displayed the courage and leadership to openly support Roy Moore for senator in the face of a massive sexual harassment pity festival. The importance of that seat today supersedes any consideration of flimsy sexual misconduct accusations - which are likely bogus.
Meanwhile, sleazy lawyers and their clients try to create litigation opportunities to pad their bank accounts. Ultimately, the left hopes to generate enough propaganda about sexual harassment to affect the 2018 elections. It is also designed to create an impetus to drudge up the meaningless Access Hollywood tape again in an effort to force Trump into resigning. To the left’s benefit, the uber-attention on supposed injustice against women creates an atmosphere of atonement among organizations impacted by charges of sexual misconduct resulting in a move to hire and elevate more women. Certainly, this has happened at Fox News. It will be interesting to see how many women replace the men who resign their positions because of sexual harassment claims.
Indeed, most people couldn’t care less about sexual harassment allegations. It is vital they not become brainwashed by media propaganda. They must speak out and vote accordingly to stop the castration of America. 12/11/17
©2017 William J. Dodwell
Miscellaneous Thoughts Posted to Linked In Between January and March 2018 By William J. Dodwell
Analysts have long anticipated higher inflation and interest rates in the normal course as the economy improves, especially in view of the salutary effects of Trump’s tax cut and his ongoing regulatory reform. Seemingly ignored is that rates will rise from historically low levels to still relatively low levels. As such, higher borrowing costs will continue to be quite manageable. As usual, the Fed will raise short-term rates commensurate with inflation and economic growth. But what is new is that the Fed will also pressure longer term rates somewhat as it pares its $4 trillion-dollar bond portfolio amassed from past quantitative easing. Those bond purchases were meant to suppress rates while forcing capital to flow to higher-return assets, such as stocks, in a misguided effort to create a “wealth effect’ that would stimulate the economy. But faster interest-rate normalization would have been better for the real economy since the Great Recession ended in 2009.
The Fed withdrawing its support by not rolling over maturing bonds, and by eventual outright selling, will inevitably result in moderately falling bond prices. But that should not augur disaster as some predict, even as Europe and Japan eventually follow suit. Astute bond investors will adjust durations before adverse price movements create serious losses. The 10-year Treasury bond yield is still under 3%. That allows a lot of room for upward movement before reaching a tipping point. Going forward, long overdue interest-rate normalization will benefit savers and fixed-income investors, and ultimately the general economy as higher rates redirect capital from certain overvalued financial assets.
Despite a series of record shattering price increases, stocks still sport reasonable traditional price-earnings ratios backed by healthy corporate profits and relatively stable commodity prices, especially oil. (However, record shale production is muting oil prices which dominate the major stock indexes.) Contrast those fundamentals to the stock boom during the dot.com era of the 1990s that ended in a bust in 2000. At that time, analysts adopted unprecedented price valuation measures alternative to traditional earnings and cash flow indicators. Substitutes included multiples of the rate of earnings growth, and even of just revenues in the absence of profits. As stock prices soared in expectation of new game-changing technologies still in the conception stage, so did euphoric investor demand, not unlike bitcoin today.
Seemingly afraid of spoiling the party by upholding traditional stock valuation measures, most analysts adopted new ones to justify the lofty prices, no doubt in part to stimulate more buying that enriches Wall Street. Indeed, that capitulation to “irrational exuberance” was an abdication of duty that should have tainted the securities industry, but analysts were barely held accountable. Now that dereliction is forgotten. After the bubble burst, I remember asking, “Why would anyone trust a securities analyst?” But today’s stock valuations bear no such artifice. The dot.com bust notwithstanding, significant stock price run-ups historically falter on signs of oncoming recession, not from valuation concerns. Despite the aging recovery, economic slowdown is not apparent any time soon given the tax cut and deregulation.
Current anxiety about stocks rests on exaggerated fears about rising interest rates from inflation, as well as some concerns about overvaluation. As explained, worries about stock valuations and the effect of higher interest rates are overblown now. What’s more, inflationary pressures are not likely to develop for some time. That’s because the new investment in the U.S in response to the recent tax cut and deregulation will likely substantially contribute to capital formation, higher employment and rising wages amid coordinated global economic growth. This stimulus includes direct investment here by foreign companies and the deployment of trillions of dollars of overseas U.S. profits. Even derided share buybacks and dividend increases will benefit the economy. All that new investment, long deferred because of economic uncertainty, will likely balance economic demand and eventually restrict budget deficits because of the reality of supply-side economics, even given Trump’s new spending. Meanwhile, a risk-averse Fed will ensure against an overheated economy.
To be sure, not everything is rosy. Household debt is at record levels signaling serious implications for consumer spending. In addition, some structural unemployment exists. The president’s $4.4 trillion-dollar proposed budget for fiscal 2019 might require substantially more government borrowing that could raise interest rates. But the positive effect of the tax cut throughout the economy will likely more than offset the strains of new spending. Higher deficits in the short-term should be tolerated while greater economic growth develops. This is not to dismiss the seriousness of the $21 trillion-dollar national debt which will decline materially only by reducing entitlement spending. Alas, there is no appetite on either side of the political aisle to do so.
Economic fundamentals belie the media hype about volatility, inflation and interest rates. The significant rebound from the recent sharp downturn in stock prices seems to support that assessment as many still confident investors have taken advantage of price dips. The precipitous drop was largely attributed to computer-driven trading strategies based on the so-called volatility “fear index” that continues to abate. And yes, healthy corrections are to be expected after such a long dramatic ascent in the equity markets. Barring a terrorist or geopolitical calamity, more prosperity is on the horizon. We can thank Trump for that prognosis. He is the main impetus behind it. 2/14/18
Modest economic growth during the Obama years was a result of a natural resuscitation of demand deferred while growth and incomes were moribund following the 2008 financial crisis. Consumption and business investment slowly resumed in the natural course as pent up demand and depleted assets brought the economy out of hibernation. For example, many had to buy cars after putting off replacement for extra years as they fully depreciated. Likewise, businesses replaced equipment, albeit only in earnest after recovery became sufficiently evident here and abroad. Some growth returned during the Obama years despite him, in the face of Obama’s continued excessive taxation and increasingly onerous regulation. His notorious $800 billion-dollar “economic stimulus” was a bust, mostly squandered in a sop to the teachers unions in a gross political play. Obama even conceded recently that there is “no such thing as a “shovel-ready job”.
Similarly, the Democrats take credit for prosperity during the Clinton years. His economic policies were more salutary than Obama’s largely because the Newt Gingrich led Congress held them in check. The success of the economy in the 1990s was attributable to the private sector, namely the dot.com revolution, which generated huge tax revenues that contributed to the first budget surplus in 30 years. Clinton was just a bystander. To be fair, the private sector also produced the ensuing bust in 2000 after investors created a stock market bubble. But better that than a growth-smothering government.
President Trump has restored consumer and business confidence that has yielded record fundamentals-based stock valuations that portend continued economic health for some time. Today’s prosperity never could have happened in an Obama presidency. 1/16/18
Now we’re subjected to the continuous media vilification of President Trump over his leaked vulgarity about immigration policy. His wholly legitimate question concerning why immigrants from certain third-world countries are favored over more palatable candidates is met with severe media derision. In particular, Trump asked lawmakers assembled in the Oval Office the rationale for importing squalor from Haiti, Africa and elsewhere. As usual, the media try to conjure massive public offense aimed at undermining the president they hope will succumb to impeachment at their hand.
But once again, most Americans tacitly seethe at liberal media denigrating what they believe to be truth and reason. Trump rightfully questioned why the U.S. does not admit more people from countries like Norway instead of backward nations. This most impolitic remark inevitably resulted in untoward racial inferences by the left. Of course, Trump’s suggested criteria take into account that country’s track record and the benefits Norwegians would bring through their presumed assimilation and respect for American sovereignty. What’s wrong with that?
Haiti and Africa don’t meet that standard, not just because of tyrannical governments, but also given the social and moral foibles of too many of their people. What obligation do Americans have to allow immigration to infuse third-world characteristics in our social fabric in an act of national masochism and possible suicide? Empirically, race and civilization correlate substantially. America ignores that fact at its peril.
People of truth must stand up against the leftist media that are bent on destroying America. I do my small part through my posts and social interactions. For example, soon I will promote my annual “Time to ignore the Oscars” appeal to combat Hollywood in which I urge people to avoid the box office and other leftist Tinsletown products. But in an act of sheer irony, I invoke the 1976 movie, “Network”, to implore like-minded truth-tellers and patriots to fight mass media. We should muster the spirit of the exasperated news anchor, Howard Beale, who lamenting the nation’s ills petitioned his viewers to open the windows and scream, “I’m mad as hell and I’m not going to take it anymore.” Similarly, register your indignation by shouting down the media every day in concert with family, friends and co-workers. Don’t let them win. 1/14/18
As a point in fact, most such populations are black and brown, notwithstanding any number of upstanding individuals among them. Draw your own conclusions as to why that’s true. Perhaps there really is significant correlation between race and civilization. We have a president who challenges the globalist left in its effort to contaminate America with third-world pathologies in order to pave the way for its destruction. And that cabal hopes to capitalize on new found Democratic votes as a means to that end, enabled by ultimate citizenship promoted by a relentless liberal immigration juggernaut.
We see the devastation that unfettered immigration has wrought in Europe. Thank God we have a president who speaks unequivocally against it. 1/12/18
Perhaps he’s trying to create an image of
bipartisanship knowing a consensus in Congress will not materialize, especially
given a 60 vote requirement in the senate.
Then he could say he tried, having firmly placed his stake in the ground,
and thus rightfully blame Congress – without possibly having to make any
concessions amid congressional gridlock.
Alternatively, he could renege on his campaign promise and settle on a
watered down bill that may or may not result in a legislative victory. Given Trump’s supposed insistence on the
wall, it would seem the first scenario is likely. Besides, to cave on two years of strong
rhetoric on the issue would doom his re-election. His base would diminish, and Democrats will
never give him credit anyway.
For conservatives there are two non-negotiable prerequisites to satisfy before any consideration of DOCA immigrants: 1) Full and immediate funding to build and secure one of the already completed concrete wall prototypes to cover all vulnerable terrain; 2) The end of chain migration for all prospective legal entrants. These measures would dramatically reduce the number of illegal invaders, and mitigate the ill effects of legal immigration, to include inevitable massive Democratic voting. We must stop the flow of drugs, criminals, and disease, as well as minimize infrastructure strain and culture clash from unassimilated foreigners. In addition, officials must develop and enforce effective controls over expired visas, and ensure employers comply with mandatory E-Verify reporting of illegals. The conservative wish list also calls for a meritocratic basis for naturalization to replace current country-based allocations, and an unequivocal end to the immigration lottery.
Without the aforementioned two non-negotiable provisions, Trump should walk and accept the status quo. He could revisit the issue in time if sufficiently more conservative Republicans are elected to Congress. That might be his plan. If Trump does not prevail, at least he would have thwarted the intense pressure to make things worse. 1/11/18 ©2018 William J. Dodwell
GUN CONTROL: A BIPARTISAN ASSESSMENT
By William J. Dodwell March 10, 2018
Once again, in the wake of the recent Parkland, Florida high school shooting that killed 17 people, the gun control debate takes center stage, this time with seemingly greater resolve to take action. The issue involves many competing interests but mainly focuses on the Second Amendment right to bear arms vis a´ vis public safety risk, especially at the hands of mass murderers. Those on the right invoke the constitutional freedom to bear arms to defend against a potentially tyrannical government, while also extending that right to self-defense against private transgressors. Critics on the left claim the current availability of guns fosters their criminal use, most horrifically in mass murders, and they concede little regard for their need in self-defense. The following examines the basic premises underlying the positions on both sides.
On the right: The Second Amendment and tyrannical government
The Second Amendment
The Founding Fathers enacted the Second Amendment in the aftermath of the Revolutionary War waged against a tyrannical motherland, Great Britain, and in the absence of a national standing army that was largely disbanded after the war. Many objected to a federal army out of fear of its oppressive powers. Rather, state militias defended the colonies from foreign aggressors and functioned as an internal police force. Today established armed forces defend the nation’s security, while local police throughout the land enforce the law under the auspices of the Department of Justice and the FBI. The question is whether the threat of the government taking up arms against the people, so feared in colonial times, is still a cogent prospect or an outmoded notion. Is that danger plausible enough to warrant the risk that common access to guns poses to public safety? The left considers the prospect of authoritarian government intervention outlandish. The right considers it real. Thus, the bitter debate over restrictions on the freedom to bear arms established in the U.S. Constitution.
Most conservatives believe, that despite a benign military and local law enforcement, an inimical government still has the power and inclination to nullify constitutional freedoms by physical force, if necessary, in the effort to maximize its power. As such, Americans are entitled to arm themselves as promulgated in the Second Amendment of the Constitution in just one sentence that reads:
A well regulated Militia, being necessary to the security of a free State, the right of the people to keep and bear Arms, shall not be infringed.
This right, established in the context of colonial times, was affirmed by the Supreme Court, first in 2008 in District of Columbia v. Heller regarding federal law, and again in 2010 in McDonald v. Chicago in respect of state and local law. However, many on the left do not accept these decisions. In fact, ironically, some liberals accuse the Court of judicial activism on the issue.
Tyrannical government
Consider that Nazi Germany and other authoritarian countries throughout history confiscated all guns in the course of imposing dictatorships. Here at home, non-military agencies of the federal government have stockpiled guns, ammunition and military equipment in recent years according to Adam Andrzejewski, founder and head of OpenThe Books.com. They include such Rambo-style units as the IRS, EPA, Small Business Administration, Treasury, VA and Department of Education. Why? Also, why do Obamacare questionnaires that doctors are required to present to patients and return to government ask whether they own guns? Does that inquiry speak to an altruistic exercise to protect the citizenry against its murderous self, or to a nefarious effort to quell potential opposition to an unlawful government?
In view of growing intrusion on the people’s freedoms by an increasingly polarized and corrupt government, fostered by stifling political correctness, heavily promoted by academia and mass media, the right believes a government coup cannot be ruled out. This is why conservatives oppose a national gun registry as it would facilitate confiscation in the event the government becomes a police state that tries to overthrow the democracy. Indeed, a disarmed citizenry would remove an important check on the continued accretion of government power, as well as on the ultimate nullification of constitutional freedoms.
Today, conservatives worry that the increasingly liberal Democratic Party poses the risk of tyrannical government. Indeed, the Democratic ranks are becoming more progressive as new candidates emerge, especially from the state legislatures. For example, consider the left’s growing globalist and redistributionist bent and its defiance of the Constitution in the support for open borders and sanctuary cities, ultimately aimed at producing Democratic voters that will entrench the party and the welfare state. The abrogation of federal immigration law also is part and parcel of a campaign to promote identity politics as a means of balkanizing the electorate around personal grievances rather than traditional constitutional principles that bind the nation.
Also ponder the erosion of free speech protected by the First Amendment as evidenced by the suppression of conservative expression in the schools and colleges. Indeed, this censorship fosters acquiescence to an ever-expanding canon of political correctness, a derivative of identity politics. More broadly, the progressive view is about supplanting meritocracy with egalitarianism that engenders public support for, and reliance on, the state. In another act of tyranny, conservatives believe woefully lowered academic standards in the schools are designed to ultimately thwart intellectual challenges to liberal orthodoxy so as also to cultivate future Democratic voters.
Also threatening the republic is the left’s insistence on ever-growing centralized federal government, regardless of fiscal strains, that encroaches on the rights of the states. What’s more, an increasingly activist judiciary accommodates this leftward tilt, sometimes irrespective of constitutional restraints. A particularly egregious example of this overreach is the 2017 ruling of Judge Derrick Watson of the U.S. District Court for the District of Hawaii against President Trump’s Muslim travel ban. Astonishingly, he ignored specific support for the ban in the governing statute in direct defiance of the law.
As liberal Democrats amass executive, legislative and judicial control, the prospect of further diluted constitutional freedoms on which the nation has prospered becomes more likely. While Republicans currently control the federal and state governments, power can shift quickly, even to the point where the government might resort to physical force to protect its dominance. Given Democratic extremism exemplified above, a certain de facto tyranny already exists. The right to bear arms is an important deterrent against that ultimate transgression by ensuring the government may not act with impunity. Indeed, images of the American Revolution against British tyranny are not far removed.
The Obama example
To illustrate the vulnerability of the U.S. as a free constitutional republic to an overweening government, conservatives need only cite the anomalies of the Obama administration and its Marxist, globalist, redistributionist bent. The president’s unaccountable flouting of the law suggests a potential slippery slope that could conceivably lead to an overt tyrannical turn on the people. Consider the following examples.
The right points out that compounding the gross improprieties of the Obama years was the complicity of corrupt media determined to protect the current and historical record of the first black president, an important liberal precedent. To that end, all media refused to vet him as a candidate, to include ignoring abundant indications of his foreign birthplace that, if established, should have constitutionally disqualified him for the presidency. What’s more, Obama’s intransigence and collaborative media propaganda were largely accepted or ignored by the American people, inasmuch as Hillary Clinton garnered a majority of the popular vote in the 2016 presidential election. In view of this public acquiescence to government corruption, it is not inconceivable that such a renegade state could eventually invalidate remaining freedoms by force. Only armed patriots could thwart the attack.
Some conservatives believe the nation rests on tenuous grounds, increasingly adrift from the principles of its founding. As such, they insist the right to bear arms is paramount as an antidote to tyranny, even if the resistance is executed on behalf of a popular minority.
On the left: Public safety vs. the Second Amendment
Semi-automatic rifles
Gun critics cite many reasons for restricting firearms. They believe the more guns extant, the greater the risk of crime and accident. That concern supersedes the remote threat of a tyrannical government, and even the right of self-defense in private life. Today, particular focus centers on mass murders and semi-automatic weapons, especially the AR-15. (Automatic arms are illegal.) The left claims such arms are not necessary to protect against private transgressors and dismisses the probability of a government takeover of the people. The right argues semi-automatic rifles are essential for effective defense, especially against potential hostile government forces, and legitimate for other purposes as well. What’s more, conservatives point out that so-called assault weapons are used in only 2% of some 12,000 annual gun crimes, and are instrumental in a relative handful of gun fatalities. Yet, that rifle gets disproportionate attention because of sensational media coverage following mass shootings in which it is commonly deployed. In addition, semi-automatic rifles are lawful for hunting and other recreation, such as shooting competitions and hobby use, enjoyed by liberals and conservatives. As such, the popularity of those activities is a major political obstacle to curbing the legality of semi-automatic rifles.
Calling out the NRA
The debate on the left largely centers on the demonization of the National Rifle Association (NRA), the premier gun owner advocate for the Second Amendment. It promotes pro-gun arguments, and funds political campaigns in exchange for legislation favorable to gun owners. The left claims this organization is just a proxy for the gun manufacturers and a conduit for their funding gun-friendly representatives in government. As such, might NRA-influenced laws accommodating gun access exist to protect gun-makers’ profits at the expense of public safety? Relatedly, is the NRA’s objection to raising the age for gun purchasers predicated on protecting Second Amendment rights, or is it out of concern for the revenues of its benefactor, the gun manufacturers?
In the aftermath of the Parkland, Florida high school shooting, the NRA seems to face unprecedented resistance as many companies have broken ties with the organization under threat of boycotts. Targets include companies that offer discounts and perks to NRA members, such as banks that issue the NRA Visa card. The boycott movement is urging technology companies, such as Google, Apple and Amazon, to stop streaming NRA-produced videos. And investment firms are under pressure to sell proprietary and client portfolio stocks of companies engaged in the sale or manufacture of guns. The mass media in its animus toward gun ownership portray the NRA as the bogey man while giving short shrift to law enforcement lapses, consideration of mandatory armed guards, as well as to the Second Amendment itself.
But a much entrenched gun culture in this country provides enormous support for the NRA and gun ownership. Consider Georgia Governor Nathan Deal who, at the behest of his Lt. Governor, Casey Cagle, signed into law a bill rescinding a tax break for Delta Air Lines in retaliation for cancelling discounts for NRA members. As such, federal legislation to restrict gun access has been heretofore a non-starter as elected officials fear the consequences of supporting it. (It’s like a politician’s fear of offending the AARP, a powerful lobby for the large voting retiree population.) To wit, Congress allowed the 1994 assault weapon ban to expire after ten years because of little political appetite to renew it.
Raising the age for gun purchases
Is increasing the age requirement for gun purchases discriminatory as some conservatives claim? The minimum age for the purchase of alcohol and tobacco is a safeguard against disproportionately irresponsible behavior among youth. Likewise, a minimum voting age ensures a certain maturity beneficial to the public selection of elected officials. Should that concern about irresponsibility and immaturity among youth not also apply to guns without being unduly discriminating? Many on the left believe a higher minimum age requirement would eliminate a segment of the population largely associated with gun abuse.
But conservatives argue that such an age limitation on gun ownership denies the constitutional right of self-defense, while an age limit on alcohol, tobacco, or voting only denies an indulgence or electoral representation. One might ask why a minimum age would not be lowered to, say, 12 if maturity is not a factor. To that point, gun restrictionists would say that one who owns a gun poses a potential danger to others, while one who consumes tobacco and alcohol, or who votes, does not, thus supporting a higher eligibility age for the gun owner. In any case, most believe a lower age requirement for military use of a gun is justified by the precedence of national defense, and the fact that risk is limited to the relatively few who wear the uniform. When considering limiting gun ownership through age requirement, or anything else, because of the risk of harming another through accident or murder, one has to consider the seriousness of denying one the important Second Amendment right of self-defense.
In a different vein, some think the pervasiveness of violent video games coarsens attitudes about the responsible use of guns as to create an appetite for carnage, especially among youth. Is an age restriction or other limitation in order here? How about the influence of movies that so commonly portray violent characters wielding the assault weapons Hollywood decries in its political protestations? Indeed, the movie rating system restricts viewership to above a certain age. The jury is still out on these questions, but any consideration has to be weighed against the austerity of denying the public the entertainment value of these products.
The Parkland shooting – a watershed event
The Parkland, Florida incident reached a critical mass sparked by law enforcement failing to act, as reportedly four local deputies hid outside the school without engaging the shooter. What’s more, both the FBI and the Broward County Sheriff’s office dismissed numerous reports in the decade before the shooting that the confessed assailant, Nikolas Cruz, was a serious threat to public safety. Citizen calls even expressed alarm about his stated plan to attack a school.
Historically, short of a preferred outright gun ban, gun critics have called for a reliance on effective law enforcement and a universal background check to preclude the need for civilian intervention in shootings. By contrast, gun advocates have said law enforcement is not enough because it often fails, while background checks often are intrusive and ineffective. They believe an armed civilian auxiliary, best attuned to the many potential abusers imbedded in the local social fabric, is necessary to take up the slack in identifying and engaging suspects. In fact, most conservatives say the Parkland killings would have been limited if teachers and others were armed, especially in view of the cowardice supposedly displayed by the deputies. Now it appears changes are afoot.
The Parkland massacre marks a tipping point in the gun debate as yet another mass murder, among several in just the last couple years, has frayed public patience to the point of a large scale grass roots call for reform. As such, some advocate reinstating a ban on so-called military-style rifles, as well as outlawing controversial accessories, such as bump stocks. Why are these weapons necessary? Gun advocates invoke the tyrannical government scenario. But why would they be needed to thwart an intruder or other private transgressor? Conservatives minimize the risk guns pose as they claim irresponsible shooters are the problem, not guns per se. Therefore, emphasis should rest on deterring and challenging assailants through maximum armed force within reason.
An anomaly
Why isn’t law enforcement brought to bear for not trying to quash the numerous daily gun murders occurring on the notorious South side of Chicago, despite the strictest gun laws in the country? Where is the outrage on the left about those killings? The likely reason that the mayor and law enforcement do not engage is racial politics. To challenge the atrocities in that predominately black community would result in a race war with massive casualties on both sides. The abundant supply of illegal guns coupled with an implacable criminal force determined to use them to protect turf makes for a potential racial clash with volatile implications throughout the body politic.
For that reason, the politicians have no appetite for intervening. And the police lie low in understandable fear of their lives in what would be a bloodbath as the opposition would resist en masse. There would be little “hands up, don’t shoot” capitulation there. In this case, the right points to the ineffectiveness of gun laws, while the left calls for a complete ban on guns. But, truth be told, liberals mainly are mute about Chicago because they are loath to focus attention on rampant black crime.
Solutions
The extreme solution to the gun dilemma is to ban all guns at the expense of recreational and self-defense considerations, including protection against a government attack, a position espoused by much of the left. A more realistic approach is to isolate the bad actors and prevent them from purchasing a gun in the first place, especially the mentally ill.
To that end, more rigorous background checks and improved registry and attendant infrastructure are supported by much of the left and the right. Senator John Cornyn (R - TX) proposes a version of this in his “Fix-NICS” bill which would supposedly detect many would be assailants before they strike. This bill refers to repairing the incomplete FBI National Instant Criminal Background Check System (NICS) database designed to flag gun abuse suspects. Data systems integration is key to avoiding silo-effects that break the flow of information (as they did prior to the 9/11 attack). Those identified as risks according to prescribed criteria would be banned from purchasing arms and required to relinquish any already owned. What’s more, proponents say civilians should have a systematic link to the process as unique grass roots reporters of suspect conduct. Additionally, Florida Governor Rick Scott just signed into law the implementation of a state-wide database to identify anyone who makes a threat or is struggling with mental health.
However, vast background check systems are a slippery slope that challenge constitutional due process and could falsely malign innocent people, as well as deter some mentally ill from seeking needed help. The vetting process to identify potential gun abusers is fraught with possible error, fraud and privacy concerns. Indeed, false positives could taint one’s reputation and employment prospects, as well as unduly deny the constitutional right to bear arms. Ideally, criminal probability would be assigned to profiles, but that could be an exercise in sorcery. For these reasons many liberals and conservatives are skeptical of expansive databases as a preemptive tool to reduce gun abuse.
Rather, conservatives stress better enforcement of existing laws that follows up on leads and ensures effective engagement by officials on the scene. In addition, they support supplementary law enforcement in the form of armed guards and trusted trained civilians in schools and certain other public venues, like those that already exist in airplanes, airports and elsewhere. But added risks and costs give critics pause. Accidents, as well as the misplacement or theft of guns are possibilities, and tight school budgets are at cross purposes. Other security measures call for raising the minimum age for purchasing a firearm, and perhaps limiting the number of guns owned. In a nod to the new seriousness of the gun abuse problem (or to political correctness), some stores have discontinued the sale of military-style rifles. Walmart has even stopped selling toy guns. Conservatives insist that, if Second Amendment freedom is to be compromised, it has to be in exchange for actions that substantially mitigate gun abuse. In other words, gun restrictions must be effective to justify the right to bear arms. Just placating political interests must be avoided.
Striking a balance
In the final analysis, a tradeoff between public safety and self-defense sanctioned by the Second Amendment always remains. On the left, insouciance about the Second Amendment because of the seeming remoteness of a government takeover engenders a disposition toward restricting gun ownership in favor of safety. So too does the left’s reliance on law enforcement for engaging criminals absent a complement of armed citizenry. However, the right’s concern about a government threat to Second Amendment freedom, in the form of gun restrictions, confiscation or physical attacks against the people, compels gun availability in order to preserve all precious constitutional freedoms. This right to armed self-defense applies to encounters with private aggressors as well. Conservatives believe criminals will always find guns, lawfully or not. This means restricting their availability at the expense of law-abiding citizens is misguided
On the left, the disproportionately severe emotional impact of mass murder necessitates gun restriction as a preventive measure. But on the right, such potential devastation demands gun accessibility to minimize such slaughter through the presence of guns as both a deterrent and a means of resistance. In short, the left believes the abundance of guns invites violence, and therefore should be restricted. But the right claims guns are necessary for self-defense against tyrannical government and all manner of transgressors, in conjunction with law enforcement.
To best reconcile the two disparate perspectives, gun law has to optimize safeguards against gun abuse without unduly infringing Second Amendment freedom. This means laws must demonstrate effective deterrence and tactical opposition against aggressors to justify gun right concessions. In the process, law enforcement must be held accountable for its lapses to ensure appropriate adjustments.
Continued dissatisfaction on both the left and right is inevitable. But if some mix of proposed reforms substantially limits gun abuse while reasonably upholding the right of the public to bear arms to defend itself, victory may be declared. The balancing act can be adjusted as experience dictates, but unfortunately, politics will always rear its ugly head, which too often undermines the commonweal. ©2018 William J. Dodwell
Miscellaneous Thoughts Posted to Linked In Between April and June 2018 By William J. Dodwell
Last week rapper Tanye West created a furor suggesting that, because
slavery in America lasted as long as 400 years, some slaves tolerated slavery
by choice. After all, if slaves opposed
their plight en masse the resistance would have reached a critical mass that
would have ended slavery much earlier. Predictably,
Tanye’s words created vitriol on the left.
True to form, some black thugs called for violence against him in a
display of animus that is symptomatic of problematic black behavior writ large.
On the right, Laura Ingraham suggested
Tanye meant to say something less toxic that did not diminish slavery as the
sacred cow it is. No, Tanye said what he
meant. What’s more, he’s right, the
extent to which has to be determined. I have long harbored Tanye’s thought about what might be considered certain
benign slavery but have not dared to address it in my extensive writings on
race. But since Tanye opened the door, I
will enter the fray. Of course, this is
not to ignore lynchings, whippings and other atrocities inflicted on slaves in
undeniable bondage. We also know that
slaves were abducted and many tried to escape as their owners chased them in
pursuit. Involuntary servitude was a reality. But could it be that for some, perhaps most,
slavery was benign? Consider, they got
three square meals a day and a roof over their heads that might not otherwise
have been available to them in a highly discriminatory society. This phenomenon is seen among some long-term
convicts who do not want their freedom when their sentence expires. They only know prison life and they are
comfortable with the succor it offers. This
acquiescence may have prolonged slavery as Kanye suggests. To what extent was slavery benign, akin to
the relationship of a Jack Benny to his domestic, Rochester? The question is verboten because it
undermines slavery as an excuse for the ongoing black plight that deflects from
real solutions in the debate about race.
As always, politics trumps truth. I continue to denounce Kanye West as a purveyor of cultural rot that corrupts our youth and degrades our civilization. But if his expressed allegiance to Trump garners substantial black support for the president, as evidenced in the immediate doubling of Trump’s approval rating in the black community, I’ll give him a temporary pass. And I’ll give him eternal credit for broaching slavery by choice, a notion heretofore never even whispered. 5/7/18
CULTURE
FINANCE & the ECONOMY
By William J. Dodwell September 23, 2017
Congress passed the Wall Street Reform and Consumer Protection Act in 2010 to permanently redress the problems that caused and ensued from the 2008 financial crisis. Dubbed the Dodd-Frank Act for its co-sponsors, Senator Christopher Dodd (D-CT) and Representative Barney Frank (D-MA), this legislation has since overly restricted the financial system to limit credit, reduce market liquidity, impose burdensome compliance costs, and hamper economic growth and job creation. Even Messrs. Dodd and Frank acknowledged when the law passed that adjustments would be required in time as experience dictated. Now is the time to correct the excesses and unintended consequences. The House of Representatives, the Treasury, and the SEC already have presented recommended amendments. I. Dodd-Frank rests on a false premise The stated purpose of Dodd-Frank is to prevent another financial crisis and taxpayer-funded bailout. But the law is founded largely on misconceptions about the 2008 crisis and its solutions. Indeed, the media continue to suppress its seminal cause, that is, a mass deterioration of mortgage underwriting standards largely imposed by the government in its zeal to increase home ownership among lower income Americans under the 1977 Community Reinvestment Act (CRA), as well as other affordable housing policies. Indeed, Peter J. Wallison and Edward J. Pinto in an AEI publication issued April 26, 2012, reported that by 2008, right before the crisis, 74% of all high-risk mortgages were attributed to government. These mortgages consisted of those owned or guaranteed by Fannie and Freddie, insured by FHA, and issued by banks to satisfy CRA requirements and HUD mandates.
In addition, lapses in federal regulatory oversight significantly contributed to the disastrous outcome. To a lesser extent, banks also exploited the lax credit environment on their own by foisting risk onto unwitting investors at a profit. To some degree they did this through misrepresented private-label mortgage securitizations, as well as through the sale of risky individual mortgages to Fannie and Freddie for their securitizations which carry a taxpayer-backed guarantee. Nevertheless, government was the prime culprit in the mortgage meltdown that triggered the financial crisis. But regulatory apologists promote the notion that Dodd-Frank is necessary as protection from the escapades of the wily financial sector. Furthermore, the left overstates the direness of the federal bailout to justify retaining Dodd-Frank. In fact, that exaggeration might be viewed as a populist ploy to inure a largely anti-bailout public to the government and its agenda-related government intervention. Indeed, taxpayers and government operations ultimately were left relatively unscathed by the government rescue. All the large banks repaid government funds in fairly short order, and some were forced to accept unneeded aid so not to stigmatize those that required it. According to Pro Publica, as of August 28, 2017, the $625 billion of total government disbursements, including $80 billion to auto companies, has been recovered, plus an $89 billion profit. This includes $390 billion recouped from $437 billion of TARP payments to 972 recipients. In addition, the profit comprises a $23 billion 12.5% return on the totally repaid $180 billion bailout of American International Group. What’s more, the government pocketed over $100 billion from bank settlements and fines as financial institutions avoided the expense and reputational risk of going to court. They also settled to prevent government retaliation in the form of regulatory reprisals and executive firings for posing a challenge. Furthermore, the U.S. Treasury continues to pocket all profits from Fannie and Freddie long after its bailout has been repaid. In short, the government made out like a bandit. Fortunately, equity investors who held on to their pre-crisis holdings have recovered handsomely as the S&P 500 has well more than tripled from its crisis trough on March 9, 2009. Yes, the government posted four trillion-dollar budget deficits in a row following the crisis, but that was because the bailout and stimulus appropriations of the first year were left in the baseline in subsequent years for general spending. This is a good example of the left’s adage, “Never let a good crisis go to waste.” The real losers from the crisis were investors holding severely impaired private bank residential mortgage-backed securities they bought under the false pretense of the rating agencies and some issuing banks. Those investors did not share in the DOJ and SEC bank settlements meant to compensate for losses incurred from MBS issuer misrepresentations. Rather, those monies primarily indemnified state and local government pension funds, as well as Fannie and Freddie, and helped some underwater mortgagees. In addition, large amounts were directed to fraudulent community activist organizations, including successor groups of the congressionally defunded ACORN. Private MBS investors were even abandoned by their securitization trustees who failed to vigorously prosecute issuing banks that hired them. Rather, they held their fire in order to protect their prospects for future business with those banks. Where is the regulation there? Because of that experience, private-label mortgage securitization is still dormant nine years after the crisis with no sign of significant revitalization. Post-crisis financial regulation has fostered massive consolidation in the banking industry. Ironically, this has resulted in even greater concentration among the largest banks, the very institutions that Dodd-Frank advocates feared to be too big to fail, and therefore dependent on government bailout in the event of collapse. According to The Wall Street Journal, the five largest banks now hold more than 40% of U.S. banking assets. Dodd-Frank is overkill. Financial regulatory reform should focus on enforcing reasonable loan credit criteria and prudent risk management over lending, trading, investment, and financial services while ensuring an appropriate capital buffer. Those measures will ensure the stability of the financial system without the adverse economic consequences of Dodd-Frank. II. Regulatory fallout from Dodd-Frank
Today, legislators in Washington are re-evaluating Dodd-Frank with an eye toward correcting its excesses in community, commercial and investment banks. In general, the law exaggerates potential systemic risk and goes beyond the immediate cause of the crisis concerning subprime mortgages. In effect, it expanded government control to the detriment of bank profitability, capital availability, financial innovation and economic growth. In particular, Dodd-Frank mandated exceedingly stricter capital requirements, limited proprietary trading, and imposed restrictions on financial product that hurt revenues and increased the risk of bank legal liability. The law also requires that derivatives be traded on exchanges rather than on the traditional over-the counter basis, the cost of which reduces the profitability of the instruments and their competitiveness with foreign counterparts. However, there is some silver lining. In response to post-crisis regulation, banks have bolstered their capital enough to prevent another crisis. In doing so, the big banks have slashed expenses, fostered by a collaborative program called “Project Scalpel” that cut the cost of processing stock and bond transactions by sharing processing and technology. But, while some Dodd-Frank regulation is beneficial, most of it warrants amendment or elimination. A. Restricted lending As a result of excessive financial regulation in the aftermath of the financial crisis founded on an overstated risk assessment, banks, especially community lenders, have significantly restricted their lending. This is because of newly required capital set-asides that have reduced profitability, along with exploding compliance costs. That expense also has restricted bank innovation because of an attendant dearth of investment in new production technology compared to online competitors. In fact, onerous regulatory capital and liquidity requirements have created intense demand from banks for government securities, causing a shortage of them needed by financial institutions to secure short-term financing transactions, notably, repurchase agreements.
As a consequence of Dodd-Frank, many community banks have closed or merged, and the rate of new banks starting has fallen sharply. Unavailable capital and continued economic uncertainty, especially for small businesses and below-investment grade companies, have chronically suppressed capital investment and job creation essential for a better growing economy. In fact, a historically low labor participation rate has yielded adverse economic and societal conditions, notwithstanding a low nominal unemployment rate which rests largely on low wage and part-time jobs. And annual GDP growth has averaged less than 2% in the eight years since the end of the financial crisis, continuing, until recently, an already long period of near-stagnant wages.
Yet, some subprime lending has returned among lightly regulated mortgage brokers, as well as auto lenders who try to compensate for consumer and commercial lending made less lucrative by Dodd-Frank regulation. (Subprime auto lending has abated of late.) In response to limited lending by risk-averse banks, extensive online banking and other less regulated non-bank lenders fill the void, including hedge funds and private-equity firms. In particular, these entities serve small businesses and less credit-worthy individuals in place of traditional banks. For example, nonbank Quicken Loans is now the nation’s second largest retail residential mortgage lender and the FHA’s largest participant in its mortgage insurance program, as the banks have largely shunned all but the most credit-worthy home borrowers. Reportedly, the company originates and refinances riskier mortgages online and through aggressive cold calling by employees completely lacking in related experience, according to The Wall Street Journal. Sound familiar? Taxpayers are at risk to the preponderance of lower quality mortgages insured by the FHA that are originated by thinly capitalized nonbank lenders less capable of repurchasing soured loans. One might say the Wild West atmosphere of these shadow banks raises the specter of the pre-crisis subprime loan calamity. In fact, in a pending case, the DOJ has charged Quicken Loans with filing false credit information to the FHA about its borrowers. In addition, in a class-action suit, a court ruled against the company for its involvement in inflating home appraisals, for which it has to pay $11 million in fines and damages. Perhaps some Dodd-Frank regulation should be shifted to the nonbanks. (Of course, they do not pose a systemic threat.) Nonetheless, the shadow banking system serves a market need ignored by traditional banks partly because of too much regulation. It would be better if traditional banks assumed the risk of that business rather than the taxpayer-backed FHA. B. Curtailed proprietary trading Dodd-Frank has changed the financial landscape through the Volcker Rule that restricts the trading of certain types of securities by financial firms for their own account. Some of this proprietary trading has moved to hedge funds, resulting in a dearth of trading by the investment banks that has limited securities market-making services for clients. In addition, trading restrictions have increased bid/ask spreads, thus reducing market liquidity. In fact, Wall Street’s inventory of corporate bonds is down over 90% since 2007, according to William D. Cohan in Barron’s, 7/24/17, p.18. In that article, he quotes Stephen A. Schwarzman, CEO of the Blackstone Group.
“Sellers will offer securities, but there will be no buyers. Prices will drop sharply, causing large losses for investors, pension funds, and, financial institutions.” Confusion about the rule, which has prompted an interest in its repeal, has centered on distinguishing proprietary trading for a bank’s own account from market-making for a client’s portfolio. Proprietary trading involves a firm trading or holding its own securities with the intent of optimizing upside risk in a profit upon sale. Market-making generally involves an immediate purchase or sale on behalf of a client with a set mark-up on the price of the securities for the bank. While proprietary trading involves more aggressive risk-taking involving complex derivatives and hedges, the degree of risk it poses to a firm and the financial system is exaggerated, given an adequate capital cushion and competent risk management. Hence, regulators are reconsidering the Volcker Rule. It is important to note that the decimation of proprietary MBS portfolios that spawned the financial crisis derives from lowered underwriting standards applied to the underlying mortgages at origination, not from the trading of those securities in the secondary market. The oft-mentioned excessive leverage supporting that trading was predicated on security valuations consistent with the top grades of major rating agencies, and on the expectation of ever-rising home prices that would further secure the mortgages. MBS prices and the leveraged trading would have been considerably less if the true value of the securities based on surreptitiously diluted lending criteria were known. In response to the Volcker Rule, and chastened by its portfolio losses during the crisis, GE Capital liquidated $201 billion of financial assets to concentrate only on financing its industrial businesses. In addition, Goldman Sachs, a legendary bond trading powerhouse, largely withdrew from proprietary trading because of the restrictions of the Volcker Rule. It also did so because of low market volatility in recent years resulting from sustained low inflation and interest rates, and slow economic growth. In the place of trading, the firm plans to shift its focus to lending. But currently Goldman Sachs is considering a return to trading in the hope of a possible relaxation of the Volcker Rule. But the firm plans to build its relatively small corporate client base for the trading of fixed-income securities, currencies and commodities to rely less on traditional hedge fund, bank and money manager clients. C. Shortage of safe assets needed for collateral As mentioned, higher regulatory capital requirements create greater demand for safe financial assets, particularly government bonds, which get more favorable treatment in bank capital computations. A resulting shortage of such assets makes satisfying collateral requirements more expensive for repurchase agreements and centrally cleared swaps, for example. In particular, this added demand raises the relative cost of capital for those who lack sufficient access to those securities. The scarcity of these assets also contributes to a higher rate of security delivery failure when collateral is returned as repurchase agreements mature. In addition, the bidding up of these safe securities can depress interest rates to abnormal lows, even negative levels, possibly complicating Fed monetary policy. D. The overbearing Consumer Finance Protection Board
The Consumer Finance Protection Board (CFPB) created under Dodd-Frank has been granted unprecedented power and independence. It operates only under the Fed’s nominal jurisdiction virtually outside the president’s authority and with exemption from the congressional budgetary process. Under its head, Richard Cordray, an Obama appointee who still holds the office, the agency has been a loose cannon. According to the June 2017 Treasury Report on financial reform recommendations, Cordray often ignored the law, in particular a requirement under the Congressional Review Act that gives Congress a 60 “session day” notice-and-comment period to evaluate federal agency rules. In addition, he applies a “disparate impact” standard to determine discrimination in hiring and lending making banks unduly vulnerable to costly legal damages or settlements. This standard establishes discrimination on the basis of the disproportionality of alleged victims’ race relative to their representation in the general population, regardless of any evidence of intent. In examining a bank’s compliance with discrimination laws, the CFPB would simply divine a subject’s minority status according to one’s name and residence rather than empirically establish race. Later, the CFPB relented a bit to require banks to retain a driver’s license photo of borrowers, job applicants and employees to more convincingly establish race in the agency’s discrimination cases. In the process, Cordray creates the basis for lucrative litigation opportunities for trial lawyers he hires to prosecute allegedly non-compliant banks. According to The Wall Street Journal, Cordray eyes a run for governor of Ohio in 2018 for which he likely entertains rich political contributions in exchange for legal business with his agency. This game is common among state attorneys general who contract out prosecution work to law firms which return the favor in campaign funds. Government litigation against tobacco companies was a prime example of this. The CFPB also restricts mandatory arbitration in financial contracts thus encouraging class-action lawsuits against banks. This prohibition also favors lawyers inasmuch as consumer plaintiffs were awarded an average $32 in 562 class action cases studied by the CFPB while the lawyers received an average of about $424 million, according to The Wall Street Journal. The House voted to overturn this “arbitration rule” invoking the aforementioned Congressional Review Act ignored by the CFPB and Congress during the Obama administration. A vote is pending in the Senate where support is tenuous. The Office of the Comptroller of the Currency has expressed concern about the threat litigation costs might pose for the financial system as a result of the CFPB’s efforts to bilk banks through trumped up discrimination charges and class-action suits. To be fair, the CFPB has intervened properly against some real bank abuses, including charging credit card accounts for products that were not ordered, mismanagement of mortgage records resulting in inflated fees, wrongly assigned title, and misapplied payments that led to erroneous foreclosures. A particularly notable example of bank abuse is that of Wells Fargo which opened some 3.5 million accounts unapproved by customers between 2009 and 2016 which the bank charged for products. This fraud is testament to the perils consumers may face. It has to be deterred through appropriate regulation. Nevertheless, the CFPB is a clear case of power abuse that stifles financial innovation through risk-aversion while exposing banks to onerous legal costs. It must be reined in. E. Inappropriate non-bank regulation
Regulations under Dodd-Frank also affect asset-management firms and the three largest insurance companies.
F. Bank stress tests, living wills and bonus claw-backs
Under Dodd-Frank the Fed requires an annual stress test, called the Comprehensive Capital and Analysis Review (CCAR). This assessment determines whether banks have enough extra capital to be permitted to return it to shareholders through dividends and stock repurchases without jeopardizing solvency under extremely adverse conditions. The Fed has been notoriously secretive and opaque about its pass criteria making the examination difficult and expensive for banks to prepare. The Fed also mandates “living wills” that establish dissolution plans in the event of bank failure. These time-consuming requirements significantly increase compliance costs and unnecessarily constrain operations at the expense of profitability. In addition, Dodd-Frank calls for bonus claw-backs to temper excessive risk-taking in the face of a long cultural convention on Wall Street.
III. Other government interference
A. The Fiduciary Rule
Separate from Dodd-Frank, the Department of Labor created the Fiduciary Rule which, in a power grab, usurped the traditional jurisdiction of the SEC by invoking a provision of the 1974 Employee Retirement Income Security Act (ERISA). The rule calls for financial sales representatives serving retirement accounts to act as fiduciaries and fee-paid advisers responsible for the best interest of clients. Financial advisers replace traditional commission-paid brokers who essentially take trade orders and execute them, only taking into account general client suitability criteria. Thus, the rule supposedly affords greater protection by ensuring consideration of the investor’s interest in the advisory process. But under the new rule, advisers are subject to legal liability, notably from lucrative non-waivable class-action lawsuits that enrich the plaintiffs’ bar. Advisers incorporate this risk in higher fees, or they might withdraw from the business to avoid potential litigation. In addition, they could stop serving smaller retirement accounts because of inadequate compensation and added disclosure compliance costs. If enacted, this rule could result in a smaller pool of advisers, and unaffordable fees for some, causing many small investors to fend for themselves. President Trump’s Labor Department is currently re-evaluating the economic impact of the fiduciary rule and may exempt certain transactions, such as IRA rollovers and insurance products. Proposed implementation has been deferred until July 2019. B. Continued government control over Fannie Mae and Freddie Mac
Another manifestation of government overreach in the financial sector outside the scope of Dodd-Frank is the evolution of mortgage-finance giants, Fannie Mae and Freddie Mac. They have been in conservatorship since the financial crisis during which they received a $189 billion government bailout. In that time, these institutions have displaced private mortgage securitization with more of their own agency mortgage-backed securities through their accelerated purchase and packaging of newly originated mortgages issued by banks and other lenders. As a result, the combined firms guarantee or own about $5 trillion of their mortgage-backed securities, encompassing 48% of all mortgages. In addition, they carry some $5 trillion of corporate debt that finances the ongoing purchase of mortgages from originators. As such, Fannie and Freddie constitute an unhealthy securitization duopoly with virtually no capital base. Most significantly, Fannie and Freddie mortgage exposure poses potential liability for taxpayers. That is because the government bears the credit risk, guaranteeing timely principal and interest payments to investors holding the agencies’ mortgage-backed securities. In addition, the government implicitly backs their corporate debt in the event of insolvency. What’s more, political forces have continued to make the two behemoths relax underwriting standards for mortgages they purchase from originating banks and nonbanks. C. Misguided monetary and fiscal policy
Besides added regulation, banks have been hamstrung by monetary and fiscal policies. Specifically, the Fed’s open market operations and past quantitative easing through bond purchases have produced chronic near-zero short-term interest rates, as well as near historically low long-term rates, that squeeze net interest margins and therefore curtail lending. These low rates force investor capital into more risky assets in the quest for higher returns, rather than to traditional bank deposits that would fund lending and reward savers. A normalization of interest rates by the Federal Reserve Bank and other major central banks will reverse this anomaly to provide income for both lenders and savers that will stimulate economic growth. While rate normalization is currently in prospect, the slow pace of rate hikes thus far will likely prevent relief for some time. In addition, excessively high corporate and individual tax rates have stifled the economy and the banking environment. Over $2 trillion of U.S. corporate profits remain overseas to avoid almost the world’s highest rate at home. Businesses and investors have anticipated tax relief since President Trump’s election. But continued uncertainty from the delay in passing proposed tax reform diminishes confidence in its eventuation. This suppresses capital investment as borrowers, lenders and investors are reluctant to commit. Nonetheless, optimism prevails as reflected in record high stock prices in 2017.
IV. Proposed regulatory relief
A. What is needed?
The objective is to achieve the right balance between free market forces and appropriate operating discipline guided by regulation commensurate with risk and size. Ideally, this ensures optimum credit availability, appropriate risk-taking, market liquidity and innovation consistent with systemic institutional safety and economic growth. As mentioned, the first priority is to apply lending criteria that are not too restrictive or too accommodating. Proprietary trading also requires some limits while compliance costs should be reasonable relative to risk. A suitable, but not excessive, capital buffer is paramount to absorb losses in another crisis and to avoid a taxpayer bailout. Debt-to-equity conversions to replenish capital in times of stress do not suffice. Too much reliance on this “bail-in debt” can create systemic reactions when bondholders absorb huge losses. It also makes bond issuance more expensive and difficult. In addition, financial consumers must be protected from abuse by banks but regulation should not unduly interfere with the economics of product offerings. As mentioned, the Treasury and the SEC have issued reports of recommendations for various forms of financial regulatory relief. Under Dodd-Frank, lending and trading restrictions, as well as compliance requirements, have been too austere considering that lost capital and stability from the financial crisis have been restored. To wit: All 34 banks subject to the Fed’s latest annual stress test passed. In addition, excessive consumer protection measures have been imposed on financial product squeezing bank profits. Ideally, a sound financial system, including Fannie and Freddie, would safeguard against the politicization of credit and capital through social engineering preferences. Also reprehensible are quid pro quo deals between financial institutions and political officeholders involving preferential treatment in exchange for campaign contributions. For example, the long cozy relationship between Fannie and Freddie and Congress contributed to excessive accommodation to the housing sector. In addition, banks need protection from abusive prosecutions by the CFPB and other agencies. Of course, a degree of politics is inevitable, but protections against excess should be in place. President Trump has expressed support for more accommodative lending needed to spur the economy. Accordingly, the president has nominated Joseph Otting to replace Thomas Curry as Comptroller of the Currency. Curry, as well as former SEC Chair, Mary Jo White, were wary about excessive leveraged lending to riskier corporate borrowers and to private-equity firms to finance buyouts. Moderated capital and liquidity requirements would permit more lending. The president also nominated Randal Quarles for vice chair of supervision at the Fed, the top bank regulatory official. Reportedly, he is amenable to re-evaluating Dodd-Frank for regulatory relief in the post-crisis environment, including a review of overly punitive capital requirements. And he opposes breaking up the big banks. Nonetheless, his reforms are subject to approval by the Fed’s board and other agencies. B. Candidates for change
The following areas are under consideration for regulatory relief:
The Fed is currently reviewing the “leverage ratio” as a prominent capital measure to substitute for a “risk-weighted assets” metric. The former determines required capital objectively as a percentage of gross assets. The alternative dictates capital based on a percentage of those assets adjusted for a somewhat arbitrary and manipulative assessment of inherent risk. Excessive leverage through repurchase agreements between financial institutions, where banks borrowed short-term and invested long-term in subprime mortgages, significantly fueled the financial crisis. When confidence in the solvency of counterparties plummeted, a liquidity crisis ensued so that banks could not roll over their repos. This left repo lenders with impaired collateral that was valued less than the cash loaned. Contagion throughout the financial system was a real threat given the vast breadth of the repo network. The leverage ratio signals excess in this scenario better than the risk-weighted asset measure of capital. Today, repo volume has diminished, tenors are longer term, and transactions are secured by safer collateral. Because of capital charges for leverage ratios above certain thresholds, banks have reduced leverage from up to 50 to 1 pre-crisis to about 15 to 1 today, leaving a capital buffer up to seven times greater to absorb losses, according to William D. Cohan in Barron’s, 7/24/17, p. 18. However, there are tradeoffs to such safety that can render regulation excessive at the expense of lending, trading and profit. Banks have to strike the right balance and continually monitor it for adverse change. The Commodity Futures Trading Commission (CFTC) is considering relaxing the “supplementary leverage ratio” which includes cash margin set aside as collateral to secure swap transactions. Proposed relief would exclude this segregated asset from the leverage ratio calculation freeing up some capital for lending. Similarly, the Treasury proposes exempting client cash on deposit with custody banks from the leverage ratio computation. This would potentially result in a boon to earnings because those banks could replace costly preferred stock outstanding with debt, or invest more client cash. Such overly stringent capital requirements create shortages of safe collateral assets and hamper lending to the detriment of economic growth. 2. Volcker Rule
Having tightened the regulatory noose on banks for several years under Dodd-Frank, and considering significant improvement in the stability of the banking system since the crisis, the Fed and other oversight agencies have indicated openness to some relief. There is general support for simplifying the Volcker Rule to enhance market liquidity, particularly in view of the Fed’s intention to start reducing its $4.2 trillion balance sheet amassed from earlier quantitative easing aimed at stimulating the economy. 3. Stress test
There is also support for relaxing qualitative annual stress test criteria in the Comprehensive Capital Analysis and Review. Rather, advocates favor quantitative capital measures in biennial, rather than annual, tests relative to a bank’s risk to the financial system. In addition, both regulators and Congress now support relief for small banks which under Dodd-Frank have been unduly subject to some of the same controls as big banks but with disproportionately negative impact on operations.
But, while overly draconian stress tests designed to verify a bank’s capital adequacy under very adverse conditions are problematic, regulators and bank managements must ensure they are accurate. Banco Popular passed a Spanish stress test in 2016 only to collapse less than a year later. Investors who purchased the bank’s convertible contingency bonds for their extra yield, partially in reliance on the stress test, were wiped out. The bank collapsed from inadequate consideration of impaired mortgages festering on the books since the run up to the financial crisis. 4. Compliance monitoring
Banks also need relief from onerous compliance monitoring and reporting that seriously distract from company management and planning. Redundant regulatory oversight should be eliminated or streamlined. Some object to the role of the Financial Stability Oversight Council represented by the Treasury, Fed, SEC, OCC and CFTC among others. It was created by Dodd-Frank to monitor the stability of the financial system as whole. Ironically, the porous regulatory system that contributed to the financial crisis could be replaced by too much overlap that hampers bank lending profitability. Treasury Secretary Steven Mnuchin expressed reservations about such coverage. “… we are running into situations where the law gives up to five agencies the authority to administer one statute and they can’t even get a consistent rule.”
The Wall Street Journal, 6/14/17, p. B1
5. Operational risk
Banks have complained about inordinate capital having to be set aside to cover operational risk. This is risk inherent in internal operations as distinct from exogenous forces in the markets and the economy. Operational risk may arise from transaction processing errors, unrepresentative pricing, calculation errors, faulty analytics, system failure, and fraud that result in asset losses or legal settlements. It may be mitigated by new technology, added compliance personnel, additional capital set-asides, and enhanced regulatory oversight. According to The Wall Street Journal, the five largest U.S. banks assign an average of 29% of risk-weighted assets and 18% of total assets to operational risk. Reportedly, that translates to $50 billion of extra capital reserves that could be loaned or returned to shareholders. Operational risk is largely quantified on the basis of the assets of discontinued operations, such as Bank of America’s defunct Countrywide Financial acquired during the financial crisis. Yet, capital is still reserved against it. Jamie Diamond, CEO of JP Morgan Chase, is particularly adamant about regulatory relief in this area. 6. Bonus compensation
Interestingly, regulators have decided not to pursue restrictions in some areas many thought contributed to the financial crisis. Once exemption concerns longer bonus deferral and claw-back proposals that have been scrapped as a result of heavy lobbying to protect this bastion of the Wall Street culture. No bonuses paid in the approach to the 2008 financial crisis have been clawed back. So far, it looks like this practice will not change, despite the risk motivation concern Dodd-Frank raised. Some believe that discipline is needed to temper excessive risk-taking by traders who some believe gave significant impetus to the crisis. As such, critics argue that bonus compensation be predicated on traders putting some of their own capital at risk like the partnership model of securities firms before they went public in the 1970s. In the public model, traders sometimes have perverse incentives to take big risks with shareholder capital. But to be fair, shareholders benefit from the upside of that trading in the form of higher earnings and attendant stock appreciation. Regarding the downside, management should ensure adequate internal controls to minimize losses from bad bets and rogue trading. In the public model, traders are tempered by not only effective audit and management, also present in the partner model, but additionally by regulation. Shareholders rely on all that protection when they invest. 7. Credit default swaps
The SEC gave up on new rules governing the trading of credit default swaps. In general, the regulators seem to recognize that there is no need to further redress the damage inflicted by the financial crisis. Rather, there is more concern about correcting the regulatory excesses that ensued in the aftermath relative to the state of the economy and the financial system today. The role of the credit default swap as a contributor to the financial crisis is exaggerated. In fact, it was a $70 billion unhedged undue concentration of this derivative held by AIG alone that posed a threat. That mismanaged portfolio caused the firm to fail and be taken over by the government when the value of the underlying subprime mortgages it insured plummeted and thus triggered claims. The nature of the instrument itself is not problematic. In fact, it is an effective risk management tool for CDS buyers. Sellers such as AIG are responsible for risk control as well. A regulatory limit on undue concentration of CDS exposure, as exists for securities, would have prevented the AIG debacle. Indeed, some regulation is in order. 8. Freeing up the Board of Directors
In a surprising development, the Federal Reserve Bank recently proposed relaxing its guidance on the board of directors’ involvement in technical issues so it may concentrate more on strategic matters concerning economic growth. Currently, information that flows between the Fed examiners and bank management is shared equally by the board. At the urging of boards of directors, the Fed calls for management to inform the board only about stymied required remediation efforts. No more would the board be immersed in such issues as the adequacy of loan loss provisions, a common distraction. Federal Reserve Board governor and head of the Fed’s bank oversight committee, Jerome H. Powell, has led the initiative. He said in the New York Times, 8/13/17: “We need to allow boards of directors and management to spend a smaller portion of their time on technical compliance exercises and more time focusing on the activities
that support sustainable economic growth.”
9. Leveraged exchange-traded funds
Continued regulatory concern focuses on the investment risk of leveraged exchange-traded funds (ETFs). These funds take on outsize debt to finance larger derivatives-laden portfolios that are exposed to risky volatile price movements. Meant as a turbocharged tool for short-term trading profits, regulators are considering restrictions as they worry about the potential impact on unwitting retail investors. However, leverage ETFs represent only 1.5% of the $2.9 trillion U.S. ETF market, according to The Wall Street Journal. 10. SIFI designation
The Systemically Important Financial Institution (SIFI) designation for asset-management firms and insurance companies with over $50 billion of assets should be eliminated. As mentioned, Dodd-Frank mistakenly views these institutions as potentially threatening to the financial system as a whole, but according to bank risk criteria that do not by nature apply to these industries. Principally, these nonbank firms do not have counterparty relationships with one another like banks do that could create a “house of cards” contagion when stressed. Clients invested with asset-management firms knowingly bear the risk of their portfolio losses, which, unlike bank deposits, are not insured. Indeed, the institution has no liability to speak of. Similarly, insurance losses do not threaten the financial system as they are by nature episodic, not pandemic. Therefore, insurance claims not indemnified because of company insolvency do not constitute a systemic threat. (As explained, AIG’s credit default swap exposure was different from conventional insurance.) What’s more, collective policyholder premium payments over time, unlike financial investments and deposits, are a spent force that cannot pose a threat to the financial system. By contrast, massive bank asset impairment causes capital depletion that can threaten solvency. In turn, that can preclude payment of myriad counterparty obligations, as well as customer deposit liabilities (most of which taxpayers would bear through FDIC insurance claims.) This bank contagion could extend to uninsured nonbank institutions invested in bank-issued C/Ds and commercial paper, but that risk would be precipitated by the collapse of the investee, not the investor. Thus, nonbanks should not bear SIFI status because they do not originate systemic risk. In the interest of protecting investors from external calamity, some might advocate that government regulate the client investments of asset-management firms like it does the investments of banks and insurance companies. In fact, as explained, this regulation was recently adopted for money market funds, and state insurance regulators have always limited the investments of insurance companies. But restricting investments of asset-management firms would fly in the face of the right of investors to try to maximize their returns according to their risk appetite, even in the face of a systemic threat to the financial system. As such, regulating firms that manage the financial assets of risk-taking clients cannot be equated to government protection of bank deposits predicated on asset preservation and insurance coverage founded on avoiding financial loss. Of course, catastrophic losses of any kind, be they incurred by asset-management clients, unpaid insurance claimants, or bank counterparties and depositors, can have an enormous collective impact on the economy as spending and investment plummet. Although the effect of the losses may be widespread, the cause, which is the focus of regulators, does not lie with the failure of asset-management and insurance companies. Progress is evident. The Financial Stability Oversight Council (FSOC) created under Dodd-Frank is currently reconsidering insurer AIG’s SIFI status, as the firm has sold half its pre-crisis assets including many extraneous businesses. In view of this review, and MetLife’s successful court challenge over its designation, insurer Prudential Financial is amplifying its challenge to SIFI oversight. 11. Fannie Mae and Freddie Mac reform
Congress has been undecided about the disposition of Fannie Mae and Freddie Mac. Conservatives call for a completely private housing sector involving the dissolution of the firms. Others support a continued role for the entities, either in continued conservatorship or as public companies again, to provide liquidity in the mortgage market and subsidization for lower income home buyers. Another issue concerns the utilization of profits. Since 2012 Fannie and Freddie have been returning all earnings to the Treasury to reimburse it for a $189 billion bailout. Having repaid the debt, they continue to return profits in exchange for a $250 billion backup to protect against insolvency in the event of future defaults. But some propose that Fannie and Freddie profits be retained as a capital cushion which currently is quite thin. Of course, the line of credit in lieu of investor capital accommodates additional government spending which seems to have little resistance in Washington. Since 2013, these government sponsored enterprises (GSEs) have transferred some default risk to investors by issuing a new type of mortgage-backed security that does not carry the guarantee. While issuance is small, the security is becoming increasingly popular among institutional investors as they offer higher yields than traditional agency MBS whose credit risk is borne by the government. Investors prefer these securities to bank-issued MBS, the market for which has remained largely dormant since the crisis. As mentioned, investor confidence still has not recovered from the compromised mortgage underwriting and ratings frauds that decimated bank MBS valuations during the crisis. Diminishing government involvement in the mortgage market reduces taxpayer risk, and perhaps sets the stage for a much needed return to private securitization. On the other hand, Fannie and Freddie have taken on additional contingent liability in recent years by guaranteeing the borrowings of investment firms that purchase foreclosed homes for rental. Also, the agencies are now purchasing mortgages that finance single home rentals. These programs were instituted in response to the lowest home ownership rate in 50 years resulting from stricter mortgage standards, as well as the weak finances of individuals caused by student debt, low savings from the Great Recession, and static wages. The housing sector is far too concentrated in government hands. Fannie Mae and Freddie Mac should be taken out of conservatorship and collaborate with private banks to share credit risk. This would reduce the potential taxpayer burden from the guarantee of agency mortgage-backed securities, while private banks would hold a greater share of mortgages issued. Ideally, the private-label securitization market would become revitalized so more MBS investors would bear credit risk with or without a shared private/public guarantee. However, there is no telling how long it will take to restore investor confidence in that market, as it has yet to recover in nearly ten years. What with more pressing financial issues on the legislative agenda this year, Fannie and Freddie reorganization is not a priority. In fact, they were not addressed in the Dodd-Frank Act either. The nationalization of the housing sector that displaces the role of private banks and expands taxpayer-backed subsidization of home ownership, and even rental, is unhealthy for the economy. Reform is necessary. C. The Financial Choice Act
In June 2017 the House passed a bill called the Financial Choice Act under the auspices of Financial Services Chairman, Jeb Hensarling (R-Texas), which proposes specific relief from Dodd-Frank. Accordingly, a firm may opt for maintaining current Dodd-Frank regulations, or operating under fewer restrictions in exchange for holding extra capital. The bill requires capital equivalent to 10% of assets vs. about a current 7% average among the largest banks. Opinions vary as to the appropriate quantification. Former Fed Chair, Alan Greenspan, suggested even 30% in a 6/30/17 appearance with Maria Bartiromo on Wall Street Week. But that likely would be economically stifling. Bank balance sheets have improved considerably since the crisis. For example, banks have increased their Common Equity Tier I ratio, the highest-quality capital, from about 7% before the crisis to about 12% today, according to William D. Cohan in Barron’s, 7/24/17, p. 17. Therefore, there is room to relax Dodd-Frank operating strictures, especially for small banks. The Choice Act supports commensurate relief for small banks to accommodate more lending in local communities. In addition, the Financial Choice Act proposes revising or repealing the Volcker Rule that governs bank investment funded by tax-payer insured deposits. It also calls for ending the authority of the Federal Deposit Insurance Corporation (FDIC) to close troubled banks and to order an “orderly liquidation”. Rather, a bank would be required to file for traditional bankruptcy under a new provision of the bankruptcy code. Also, the Choice Act would repeal the onerous SIFI designation. Furthermore, the legislation would rein in the renegade Consumer Financial Protection Board which operates with complete independence outside the Congressional Budget process under the nominal tutelage of the Fed which funds it. In 2016 the U.S. Court of Appeals for the D.C. Circuit ruled the CFPB leadership structure unconstitutional. The case is currently under review by the full Court of Appeals. Under the Financial Choice Act, the CFPB would become an independent agency within the president’s jurisdiction subject to Congressional appropriations. The Choice Act removes Dodd-Frank requirements that diminish the role of the securities rating agencies whose inflated grades were central to the financial crisis. The bill eliminates required regulatory disclosures about rating methodologies, and preserves the government imprimatur over the three leading agencies, thus ensuring their continued dominance. Free-market advocates support this hands-off stance in favor of removing barriers to entry and allowing institutional investors to decide the suitability of the ratings of any firm that chooses to proffer them. However, investment firms have been averse to adopting alternative in-house securities analysis in the aftermath of the crisis as too much of a distraction. The same reluctance probably would extend to evaluating new unproven agencies. Indeed, money managers have demonstrated continued acceptance of the big three agencies regardless of their failings leading up to the crisis in a seeming redemption of the now chastened major rating agencies. Nevertheless, with the near demise of the private-label mortgage-backed securities market that was at the core of the financial crisis, MBS securities rating is no longer a prominent issue given the dominance of government-guaranteed agency MBS. Continued rating of the relatively small pool of asset-backed securities, and of more transparent corporate bonds, by the major agencies is less problematic. Meanwhile, the president has power over the rulemaking process to ease the pain of the Dodd-Frank Act. As such, some federal agencies, as mentioned, have decided not to pursue unfinished Dodd-Frank regulations, including those concerning compensation claw-backs and credit default swaps. The current Dodd-Frank claw-back provision allows shareholders to recoup executive compensation if paid on the basis of fraud or misconduct, or on materially misstated financial reports. The Choice Act would restrict a request to recover compensation, or to change any other company policy, only to shareholders owning a minimum of 1% of a company’s shares for three years, versus the current $2,000 of ownership for a year. Opponents of the proposed 1% ownership requirement of the Choice Act claim the current Dodd-Frank rule imposes an important discipline on risk-taking, as well as accountability for company actions concerning social issues, such as diversity and human rights. But that policy makes banks vulnerable to litigious overzealous social responsibility, or so-called “impact”, investors that could crimp company innovation and profits, as well as economic growth. The Financial Choice Act has broad support among Republicans but Democrats believe it invites too much risk and therefore does not adequately protect against another financial crisis. Passage in the Senate will require some bipartisan backing. D. Senator Elizabeth Warren’s view
Senator Elizabeth Warren, a member of the Senate Committee on Banking, Housing and Urban Affairs, the creator of the CFPB, and a liberal gadfly on the financial regulatory front, claims more, not less, regulation is necessary. In an interview with Gerald F. Seib of The Wall Street Journal (6/19/17, p. R5) she based her opinion on: 1) Massive consumer preference for more regulation expressed in polls; 2) The increased concentration of bank assets since the financial crisis; and 3) $14 trillion of total economic loss from the crisis considering home values, individual net worth, and jobs. However, she does concede regulatory relief for small banks. Warren also calls for the complete separation of commercial and investment banking akin to what existed under the 1933 Glass-Steagall Act that was repealed in 1999. First, while consumers have legitimate opinions about bank products and services they buy, they have no idea what constitutes appropriate regulation overall, any more than those laymen can evaluate most other issues before Congress. That’s why the nation is a democratic constitutional republic. Second, the asset concentration of large banks and the far-reaching impact of the crisis are effects ancillary to the seminal cause of the crisis. That was government-induced lax mortgage underwriting, followed by bank-initiated credit concessions motivated by a lack of regulatory resistance. Underwriting deterioration also was encouraged by the ease of transferring risk to the robust mortgage-backed securities market. All other causative agents of the crisis, including protracted monetary accommodation, regulatory lapses, rating agency fraud, borrower deceit, as well as bank securitization misrepresentations, also were incidental to diluted credit criteria applied to home mortgage lending. Absent that mortgage underwriting blunder, the financial crisis would not have occurred. As such, regulation aimed at preventing another such crisis should focus primarily on credit quality, not remote or unrelated factors. If an improperly installed utility pole falls from a gust of wind destroying homes, cars, and possibly people in its wake, a regulator does not mandate an acre of vacant land around every pole. Rather, it ensures more secure installation. E. Reinstating the separation of commercial banking and investment banking under the Glass-Steagall Act of 1933
Some critics blame the 2008 financial crisis on the 1999 repeal of the Glass-Steagall Act of 1933. That revocation permitted banks to engage in proprietary securities trading and securities underwriting as complements to traditional commercial lending. Previously, commercial banking and investment banking were walled off from each other, or operated as separate institutions so not to endanger customer bank deposits. Dodd-Frank did not restore Glass-Steagall. But today, some call for a return to some degree of separation to prevent a problem on one side of a bank from spreading throughout the organization and the financial system at large. As such, they argue that an appropriately structured separation between commercial lending and investment banking ensures safety, while permitting banks to engage in activities that produce diverse sources of capital-bolstering revenue. That model helps to ensure optimal credit availability and liquidity that foster economic growth. To that end, proposals range from just tightening controls between the two sectors, to reinstating complete separation commensurate with inherent risk. For example, graduated controlled integration of multiple businesses might restrict inter-company transactions between subsidiaries in exchange for relaxing regulations over particular businesses within a bank. Or, a requirement that each business independently funds itself might be a condition for less regulation. Extreme advocates call for a total return to Glass-Steagall separation. But an analysis of the genesis of the 2008 financial crisis flies in the face of a call for complete separation. As mentioned, the crisis was founded primarily on lending risk where mortgage credit criteria were grossly relaxed. Indeed, lenders face exposure to the credit and interest-rate risk of their portfolios as principal. But investment banks engaging as agent in securities trading for clients (market making), securities underwriting, mergers and acquisition advisory, asset-management, and hedging for clients, experience little risk to their balance sheets. To be sure, proprietary trading of mortgage-backed securities for a bank’s own account was central to the crisis, but it created havoc because the underlying mortgages were tainted in the loan origination process, not because of the act of trading itself, despite excessive leverage. Irresponsible mortgage underwriting caused MBS valuations to tank when massive defaults later became expectant. William M. Issac, former chairman of the FDIC, and Richard M. Kovacevich, retired CEO of Wells Fargo, make an interesting case in The Wall Street Journal, 4/26/17, p. A17. They maintain stand-alone institutions that engaged in only lending or only trading proved vulnerable during the crisis as they lacked diversified investments to absorb capital depletion from impaired mortgages. Examples are product-concentrated Countrywide, Indy Mac, Bear Stearns and Lehman Brothers. The large banks, such as Bank of America and Citigroup that diversified their risk in both commercial and investment banking, survived where homogeneous institutions did not. As such, a combined lending and investment banking operation within the bank regulatory system that produces diverse revenue streams, and is protected by a suitable capital buffer, is the safer model for avoiding another crisis.
V. Integrated global regulation
Some advocates of stricter regulation support integrating U.S financial regulation with an international control structure that creates seamless and comprehensive global protection against another financial debacle. This network is particularly focused on the “shadow banking system” which encompasses financial entities outside the regulated banking system to include securities firms, asset managers and hedge funds. In July 2017, G-20 nations meeting in Hamburg, including the U.S., agreed to comply with international regulations and enforcement promulgated by the Financial Stability Board established in 2009 in the wake of the financial crisis. But Peter J. Wallison, senior fellow at the American Enterprise Institute, questions how President Trump reconciles this entanglement with his commitment to relax financial regulation in the U.S. “It is not difficult to see that this is a power grab by the regulators who sit on the FSB. They are trying to leverage an international agreement to create a closed, uniform, global system of financial regulation and supervision.” The Wall Street Journal, 7/14/17 Inevitable tension arises. Currently, the CFTC is challenging EU efforts to regulate foreign clearinghouses that do business in Europe. The U.S. and the EU agreed in 2016 to recognize their respective regulations in this area, but Dodd-Frank implicitly calls for the CFTC to defer to overseas counterparts to some extent. The EU seems to be trying to tighten this regulation in reaction to Brexit and the CFTC is resisting without running afoul of Dodd-Frank. Given President Trump’s express aversion to unfair trade agreements, it is not likely he will unduly subject the U.S. financial system to global entanglements that interfere with his stated commitment to deregulation.
VI. The economic environment
Financial deregulation is only one piece of the economic puzzle, albeit an important one. It affects credit availability, liquidity and capital flows through lending, trading and transactional services that impinge directly on the economy at large. But even an optimal degree of regulation is just a theoretical construct absent demand in the economy fostered by appropriate fiscal, monetary and other government policies. In fact, government has restricted economic growth since the financial crisis. Policy must change in conjunction with financial reform that stimulates loan demand and capital investment. If not, less regulated online lending and brokerage might become an increasing threat to banks as the digital upstarts intrude the market for individual and small business borrowers in their stead. Moreover, the tepid economic growth since the crisis will not likely improve, regardless of regulatory reform. A. Trump’s agenda
The Trump administration currently proposes substantial tax cuts to complement its proposed, as well as already implemented, deregulation that can truly spur growth in a free market economy. Trump also advocates major infrastructure spending that would provide at least a temporary fillip. If Trump’s agenda is enacted, it would operate hand-in-glove with Wall Street reforms that could drive the economy to new heights. But if fiscal stimulus does not transpire, and low inflation coupled with slow growth continue, financial deregulation could be largely moot relative to the economy. Possible impediments to the president’s agenda loom in the form of tax, budget and debt ceiling gridlock in Congress, poorly executed monetary tightening here and abroad, and a major setback in the Chinese economy. B. Monetary policy
Effective financial reform depends on appropriate monetary policy that lubricates the real economy with sufficient credit and capital founded on a normalized interest-rate structure. In response to signs of inflationary pressures, the Federal Reserve Bank has tentatively raised short-term interest rates twice since December 2015, after a decade of inaction on that front, and indicates another increase at the end of 2017. In addition, the central bank finally decided to start reducing its $4.2 trillion securities portfolio, amassed from 35 months of bond purchases under its quantitative easing programs, the result of which is expected to raise longer term rates. Earlier action to normalize monetary policy likely would have stimulated consumption through higher savings income. It also would have triggered business investment that creates jobs and adds growth. Better late than never, but the opportunity cost is substantial. The European Central Bank’s talk about liquidating its $2.7 trillion portfolio also augurs well for normalized interest rates that will foster an improved economic environment that will give regulatory reform traction. Although protracted historically low rates were meant to stimulate demand, some argue that policy retarded economic growth because it forced investors into higher yielding financial assets at the expense of business lending and investment in the real economy. Near-zero interest rates also severely limited savings income to the detriment of higher consumer spending. Monetary policy must respond appropriately to the growth that would ensue from Trump’s fiscal and regulatory reform, or financial deregulation might not help the economy appreciably. That means interest rates must rise enough to reverse yield-chasing and redirect capital to business investment and consumption. Fed chair, Janet Yellen has demonstrated considerable sensitivity to the slightest volatility in the financial markets in response to the Fed’s actions. That diffidence precluded courageous action in respect of raising interest rates. Paul Volcker she is not. She seems to think the sustained slow growth that has ensued from post-crisis Fed policy is a new normal, the price to be paid for a secure financial system today. Her term expires February 2018. If President Trump reappoints Ms. Yellen, her politicized, ultra safe, new-normal mindset will not bode well for financial regulatory reform, monetary policy or economic growth. C. Banking operations
The banking system has replenished capital lost during the financial crisis, repaid government bailouts, tightened internal controls, and cut expenses in a return to profitability. In fact, banks reported record profits in Q2 2017 largely because of wider net interest margin resulting from Fed rate increases that have not been passed on to depositors. However, a slow pace of rate hikes now on the horizon likely will crimp bank profits. While lending to large companies has resumed, loans to consumers and small businesses still lag because of uncertain economic growth prospects. In fact, growth in business lending during the second quarter of 2017 was the lowest in six years. If banks remain somewhat risk averse as to continue to hoard significant capital in Treasuries and excess reserves with the Fed rather than lend, economic growth will suffer despite bank deregulation. D. The stock market
The general stock market represented by the S&P 500 Index has risen about 60% from its pre-crisis high of October 12, 2007. By contrast, the NASDAQ Bank Index has appreciated only 6% from its pre-crisis high of February 16, 2007. And most of that bank recovery occurred since President Trump’s election during which the index has risen 19% in anticipation of his tax cuts and deregulation. That optimism has abated of late in light of expected political resistance to his agenda. But financial deregulation, coupled with economic prosperity, would very likely restore long-suppressed bank stock prices and drive them to new highs. E. The securitization market
Mortgage securitization, a boon to liquidity before the crisis, and which some believe essential for resuming normal economic growth, remains largely dormant because of a loss of investor confidence. Indeed, private-label mortgage-backed securities holders were victim to rating agencies and some issuers misrepresenting credit quality. As mentioned, these investors were left with little recourse in recovering losses when designated Trusts charged with protecting MBS investors from mortgage fraud showed greater allegiance to the issuing banks that hired them so not to jeopardize future business with them. Nonetheless, in the quest for extra return in an extremely low interest-rate environment some investors recently have begun to revive interest in the synthetic collateral debt obligation (CDO), a bane of the financial crisis. This instrument is a derivative whose performance is tied to an underlying mix of mortgages, loans and corporate debt securities. However, today’s version is shorter-dated and protected by overlaying credit default swaps on a range of companies which mitigate potential losses. Similarly structured equities also trade. Still, many investors are wary of the complexity, liquidity and transparency of these assets in light of the financial crisis and other Wall Street debacles in recent history. Nevertheless, debt securitization provides valuable market liquidity by allowing lenders to clear their balance sheets to make room for more loans. This financial tool would be instrumental in achieving and sustaining a normal economic recovery. 8. The U.S. and global economy
In the U.S., job creation and economic growth have stabilized and home equity loans have surged in response to rising home prices. In Q2 2017 growth was at a 3% annual rate, versus and average 2% since the crisis, while personal income and consumer spending have been sanguine. Economic recovery is finally taking hold in Europe and elsewhere after lagging U.S. growth for some time. As foreign central banks ease concerns about deflation and the effects of the crisis and withdraw monetary stimulus accordingly, monetary policies once divergent from the U.S. will synchronize. This will produce coordinated global growth as all economic engines pull together. In fact, it has already started and U.S. bank deregulation will accommodate that progress. But structural changes in the U.S. employment market could interfere. The considerable mismatch in the supply and demand for jobs because of certain skills shortages, heavily skewed demand for the highly educated, as well as automation and global competition, has exacerbated economic inequality. This could ensure widespread permanent underemployment that suppresses wages, consumption and economic growth. Many adversely affected by this circumstance are the low educated and long-term unemployed who have dropped out of the market and who therefore are not counted in the nominal unemployment rate. Financial deregulation can spur a sluggish economy, but not if it is hampered by countervailing monetary or fiscal policy on which growth also depends.
VII. The political wild card and the obstacles to remediation
Some additional deregulation beneficial to the economy is expected through executive branch administrative rule changes. But they face delay because many agency positions still remain unfilled awaiting President Trump’s nomination or confirmation by the Senate. Legislation, which is required for repealing Dodd-Frank, is more problematic because of extreme partisanship in Congress. Notwithstanding Republican control of the presidency and both chambers of Congress, financial reform will be challenging because of sharp polarization in Washington that yields few or no Democratic votes. As a substitute for legislation, the Trump administration would have to rely on rule changes by the SEC, Treasury and other agencies as it already has. But those adjustments could be easily reversed by a future president. Legislation that codifies permanent relief is needed to avoid uncertainty in the economy. Indeed, the political backdrop is always a wildcard as it changes every two years. Congressional resistance to President Trump’s agenda, the effects of his ill-advised trade policy, geopolitical flashpoints, and anti-Trump media fervor could weigh on the economy as to render bank deregulation almost irrelevant. What’s more, the Federal Reserve Bank is not above politics. Chair Janet Yellen in a speech at the recent annual meeting in Jackson Hole, Wyoming expressed preference for keeping the Dodd-Frank regulatory model while barely mentioning monetary policy. Throughout Yellen’s tenure she has seemed snug about having simply avoided another crisis through an emphasis on bank stability, even some eight years after the Great Recession. She evinces pride about extra-strength capital and liquidity requirements as a belt and suspenders supplement to Dodd-Frank restrictions. And her continued historically low interest rates, started by her predecessor, have been politically beneficial for government, as well as the politically sensitive housing sector. Was the resultant redirection of capital that inflated stocks and other risky financial assets premeditated for political reasons? Surely the expected wealth effect has not generated the spending and investment the Fed hoped for. Questions abound. Does the Fed’s longstanding opposition to calls for an audit of its policymaking apparatus conceal ulterior motives? Is the power that accrues to the Fed from having amassed up to a $4.5 trillion balance sheet through quantitative easing too much to give up? Are the powers that be in government averse to breaking up the large banks because they are politically harder to control otherwise? Is the Fed’s new empowerment over the financial system bestowed by Dodd-Frank too intoxicating to relinquish? One wonders how much the Fed has over the years surreptitiously embraced globalist economics as a member of the liberal central bank community. Has the Fed been over-accommodating to central banks of struggling countries through discounted currency swaps, for example? The Fed’s social justice agenda is also suspect as evidenced by a seeming preoccupation with economic assistance to the poor and affirmative action hiring in the banks. One example of this posture is the Fed’s obeisance to Jesse Jackson’s annual Wall Street Project for the last twenty years which calls on banks to donate millions of dollars for impoverished communities (or else). Janet Yellen is not immune to the amplified politicization of her institution under Dodd-Frank. In Congressional testimony she expressed considerable sensitivity, feigned or not, about serving poor neighborhoods. Is there a limit to this largess? After all, it was a politicized Fed that triggered the 2008 financial crisis through forced preferential lending in its zeal to enforce the 1977 Community Reinvestment Act. In that period, under Chairman Alan Greenspan, the Fed looked the other way from lowered mortgage underwriting standards, probably so not to aggrieve the body politic relying on the program’s many low-income beneficiaries. Was he also fearful of activist groups and their media allies that would react to more selective lending that would disproportionately affect minority communities?
VIII. No silver bullet
Economic prosperity and consumer wellbeing depend on a proper balance between financial regulation and the operating freedom of financial institutions. The principal objective of Dodd-Frank has been the prevention of another financial crisis, or at least the ability to resolve it in short order without another government bailout. But that law has its downside to the detriment of economic growth. As such, Dodd-Frank has restricted activities that had little or nothing to do with the crisis, which was specifically caused by politically motivated imprudent mortgage lending. Ironically, the concentration of large bank assets under Dodd-Frank is greater than before the crisis, justifying continued concern about the vulnerability to the too-big-to-fail doctrine which the law meant to redress. But even the best regulation can be of limited value. What if law enforcement lapses like it did leading up to the 2008 debacle? What if the politics of wealth redistribution seriously erode lending standards again? The 2002 Sarbanes-Oxley Act was passed in the wake of massive accounting scandals to deter corporate improprieties and to inspire investor confidence. But it did not prevent the financial crisis, albeit obliquely related. More directly, SOX did not prevent the subsequent fraud, risk-taking and internal control failures displayed in the debacles involving Madoff, Stanford, MF Global, Peregrine Financial, J.P. Morgan London Whale, Bear Stearns, Lehman Brothers, Fannie and Freddie, and Wells Fargo. And what about speculative excesses in the stock and real estate markets reflecting the savings and loan and dot com booms and busts of the 1980s and 1990s/2000? And, of course, regulatory oversight would not protect against major economic downturns spawned by the effects of misguided monetary or fiscal policy, such as illiquidity, inflation, federal debt and confiscatory taxation. As such, many believe another financial crisis is inevitable regardless of regulation. Indeed, history shows financial failure is often a product of politics and human nature, be they the acts of banks, investors or government. Financial reform under consideration today is predicated on the many flaws of Dodd-Frank. No regulation is perfect as it always involves tradeoffs between safety and freedom, but it should incorporate lessons learned. Messrs. Dodd and Frank acknowledged that adjustments would be necessary as experience dictates. And, some Sarbanes-Oxley provisions were relaxed over time to foster growth and job creation, including a raising of market capitalization and revenue exemption thresholds. The time has come to repeal Dodd-Frank while still requiring appropriate bank capital requirements and essential consumer protections. The goal is to ensure a stable, accommodating and innovative financial system tempered by regulation that protects consumers and supports sustained economic growth. It is hoped this model would prevent another financial crisis by focusing on the real dangers. But there is never a guarantee.
William J. Dodwell is a retired corporate executive, management consultant and financial writer in the financial-services industry with particular expertise in the capital markets. Mr. Dodwell has written in professional journals, the trade press and corporate publications. He is a Certified Public Accountant (Inactive) licensed in the State of New York. ©2017 William J. Dodwell
By William J. Dodwell May 22, 2018
Free trade purists have historically embraced the principle of comparative advantage which asserts that nations import what other nations can produce more economically because of substantially lower labor and materials costs, technological efficiencies or superior expertise. But in practice other factors intervene in the international trade of goods and services. Because of different political systems, macroeconomic factors and cultures, some foreign producers enjoy lower production costs derived from government subsidies and minimal regulation. In addition, a country might manipulate (undervalue) its currency through central bank intervention to make its exports cheaper and thus more competitive, irrespective of production costs. In the U.S., businesses are burdened by onerous labor and environmental regulations, comparatively high taxes, and higher wages resulting from a better standard of living, and in some cases from inflated union wage scales, all of which reduce global competitiveness. To compensate, some companies import product. Or, they lay off workers, move operations overseas, or choose to shut down altogether.
Trade inequities
At issue are certain advantages U.S. trade partners enjoy because of longstanding accommodations in trade agreements. In fact, the U.S. imposes a fraction of the tariffs levied by almost any other nation according to the World Bank. Moreover, the U.S. largely ignores trade agreement violations. President Trump has called for a re-examination of these heretofore largely unknown inequities in his quest for free trade but fair trade.
Serious questions now arise. Why should U.S. exports be subject to a 25% tariff while only a 10% tariff is charged on China imports? Why should the U.S. pay a tariff on auto exports to the EU that is four times what that region pays on cars sold here? Why should American companies be required to transfer technology to China, including patents, to get a deal? Why does the U.S. allow trade agreements to be predicated on burdensome restrictions on U.S. foreign investment in China? Why continue trade accommodations to Germany originally meant to help it recover from World War II? And, of course, China, especially, flouts World Trade Organization (WTO) rules with impunity, and the U.S. gets little relief when it does appeal to that body.
Security considerations also come into play as China steals U.S. technology and sells it to enemy nations, such as Iran and North Korea, with little or no resistance. In fact, Chinese moles infiltrate American corporations and universities and abscond with trade secrets putting future U.S. competiveness in jeopardy. Trump challenges technology theft and longstanding unfair concessions to trade partners in his effort to renegotiate trade agreements aimed at substantially reducing major chronic trade deficits.
Traditional free trade
Traditional free trade advocates claim that trade deficits are not serious because U.S. capital expended on imports is invested back in U.S. stocks, bonds, real estate and other investments that support the economy. This refers to the inverse relationship between the current account reflecting a trade deficit from net imports and the capital account showing a financial surplus from the sales proceeds of those net imports reinvested in dollar denominated assets. Another reason trade deficits are benign is because imports give consumers the benefit of cheaper goods and greater selection, as well as possibly better quality as domestic producers scrimp to compensate for higher costs. Indeed, the economic impact of domestic jobs lost from import competition pales in comparison to the gains to consumers who far outnumber displaced workers. What’s more, free trade supporters are sensitive to artificial trade barriers because they can lead to retaliation that engenders a trade war that can seriously harm the world economy as it did in the Great Depression.
While this classic free trade thinking remains valid vis a´ vis the principle of comparative advantage, the other factors affecting U.S. trade agreements, including tariffs, quotas, regulation, subsidies and currency manipulation, have rendered them patently unfair in the excess. This to the detriment of U.S. companies and their employees, investors and consumers because the inequities substantially squeeze profits by suppressing export revenue and increasing import costs. As a consequence, lower profitability results in less tax revenue, thus adding to the budget deficit. In addition, large bilateral trade deficits may adversely depress the value of the dollar through the effect on the exchange rate. While massive trade deficits reflect benign comparative advantage in part, they also reveal grossly unfair trade practices that need to be redressed. President Trump has awakened the nation to this reality, including some dyed-in-the-wool free traders.
Why has the U.S. been fleeced?
Over time the U.S. has drifted far from any semblance of basic comparative advantage. Now President Trump has brought to light excessive concessions long imbedded in trade policies. Why have past administrations allowed the country to be fleeced? Special interests have lobbied for favorable provisions written into trade agreements, and into related legislation in exchange for political support. Preferences could be in the form of extra tariffs on competing imports, such as Trump’s proposed levies on foreign steel and aluminum (partially for security reasons to help shore up an over-capacity domestic industry needed in war time). Or, politically influential export sectors might be subject to lower tariffs offset by higher tariffs against exporters with less clout.
Some U.S. corporations acquiesce to high tariffs because selling to certain foreign markets is still quite profitable and holds much promise for their future growth. Other deficit inducing allowances might veil payments to other nations in exchange for political favors. In addition, trade giveaways might constitute wealth redistribution, or stealth foreign aid, to other nations in accordance with some hidden agenda. To some extent trade policy accommodates foreign policy. What’s more, certain concessions may be altruistic, such as agreeing to a higher tariff so not to threaten an importing nation’s domestic industry.
According to stalwart free stalwart Steve Forbes of Forbes Magazine, the U.S. sells its prescription drugs to foreign government agencies at subsidized prices that do not cover the cost of research and development, thus leaving American consumers to bear the burden in higher prices. Why is this? Some concession to impoverished areas are justified on humanitarian grounds, but what about the developed world? Forbes says that market should pay full price to lower costs to U.S. consumers, or do without American made drugs.
What can be done?
There is some leeway for renegotiating extreme trade terms. For example, U.S. trade partners could lower tariffs on American goods and services, increase purchases, and relax restrictions on U.S. investments in their markets. In the process, the U.S. could exercise some brinkmanship to get partners to cooperate without precipitating a trade war. After all, they are very dependent on selling in U.S. markets and in many cases have huge advantages built into trade agreements that could be reduced without much sacrifice. For this reason temporary protracted logjams are more likely than all out trade wars. But a failure to achieve U.S. relief goals must not degenerate into a series of retaliatory actions that nonetheless hampers trade flows to serious detriment of the U.S. and world economy.
Presently, the Trump administration, under the leadership of Trade Representative Robert Lighthizer, Treasury Secretary Steven Mnuchin, Commerce Secretary Wilbur Ross, and even Trump himself, is or will be renegotiating trade agreements with China, Japan, the EU, as well as Mexico and Canada in a recrafting of The North American Free Trade Agreement (Nafta). In that spirit, Trump withdrew from the potential regional entanglements of the Trans-Pacific Partnership (TPP) with eleven other nations in favor of more manageable bilateral deals. As a result, the president hopes to reduce major longstanding bilateral trade deficits, especially the more than $300 billion annual shortfall with China, mainly through foreign tariff reductions and significant increases in purchases of U.S. goods and services.
Additionally, Trump tries to encourage U.S businesses overseas to move production back to the U.S. to create jobs and lessen reliance on imports, thus reducing trade deficits. To that end, the recent tax cuts have caused Apple and Foxconn to commit to U.S. investments of $350 billion and $10 billion respectively. Another negotiating point with U.S. trade partners concerns relief from restrictions on cross-border direct investment taking into account legitimate U.S. security considerations.
But the line between free trade and fair trade becomes blurred when Trump insists on a minimum wage in Mexico, proposed tariffs (“border adjustment tax”) on the importation of certain U.S. goods produced overseas, and specified U.S. content requirements imposed on American manufacturers - all to protect relatively few American workers at the expense of far more consumers. Also undermining fair trade are longstanding U.S. government farm subsidies, especially to sugar growers. As a consequence, American businesses in need of agricultural inputs for their production have to grossly overpay at the expense of profits and hiring, while consumers suffer artificially high prices. As usual, politics rears its ugly head.
Many variables come into play in the calculus for correcting unfair trade imbalances. As mentioned, they include, import purchase levels, tariffs, quotas, subsidies, technology transfers, and foreign investment that can be bargaining chips, both carrots and sticks, for more economical deals. But, again, there are limits to resolving one-sided excesses with trade partners because of intrinsic differences in political regimes that determine the mix of government intervention and economic freedom. Standards of living vary among nations as to affect the affordability of imports. Macroeconomic measures, such as savings, employment, income and capital investment levels have a direct impact on trade flows. In addition, economically free nations require protection from cheap government subsidized imports (dumping). Inertia also takes its toll as U.S. trade partners have been spoiled for so long they are reluctant to change.
Even the U.S. has structural limitations. For example, Trump wants to reduce the deficit with China by increasing U.S. exports to that country by $200 billion annually. But the U.S. lacks the industrial capacity to produce anywhere near that much additional output, especially given a full employment economy. And saving and spending rates in China do not support commensurate demand. What’s more, China’s Made in China 2025 campaign does not bode well for increasing imports. That program is dedicated to developing local high-end manufacturing, such as artificial intelligence products, as an alternative to its current focus on low-end consumer goods in order to elevate China’s status in the world economy.
Shifting imports from China to other countries where possible does not change the aggregate trade deficit unless the terms are better. Replacing imports with domestic production where feasible would relieve the deficit. But, despite Trump’s admonishments, forced home grown product is restricted by significantly higher U.S. production costs and attendant market prices that can seriously curtail domestic and international demand and bankrupt companies causing an economic tailspin.
So, while some artificial trade barriers may be negotiated away to lower the trade deficit, new ones imposed in retaliation could exacerbate it, as well as slow economic growth. As such, some question the wisdom of Trump’s gambit to China in which he threatens $150 billion of tariffs if that country denies him his goal of reducing the bilateral trade deficit by $100 billion. Is Trump calling bluff? Treasury Secretary Mnuchin just announced a suspension of Trump’s tariff proposal pending consideration of a “framework” for a deal. In addition, Trump was quick to grant multiple exemptions to his proposed steel and aluminum tariffs. Perhaps he knows the danger of overplaying his hand.
Exceptions to the rule
Some considerations, such as national security, are legitimate exceptions to the purist trade and foreign direct investment model. For example, the president has imposed sanctions on foreign companies that violate U.S. geopolitical interests. As punishment he blocks international payment systems to prevent those firms from executing trade transactions in U.S. dollars in which a significant percentage of trade deals are denominated because of its status as a reserve currency. This geopolitical act is an appropriate imposition on unfriendly trade partners where necessary. Foreign acquisition of U.S companies, especially by Chinese companies, is also properly subject to special scrutiny and should be appropriately restricted on security grounds regarding technology transfer/theft and national defense.
But President Trump is currently considering sanctions relief as a negotiating point in response to President Xi Jinping’s personal appeal to Trump to save the collapse of ZTE, China’s largest telecommunications company. That demise was caused by U.S. retaliatory sanctions in reaction to the firm’s violation of pre-existing sanctions imposed on Iran and North Korea. Critics warn about combining foreign policy and trade policy in employing sanctions relief as a bargaining chip because it can seriously undermine the effectiveness of such international interference as a national security tool.
Getting to fair trade
We now know the U.S. extends excessive largesse to its trade partners that is unfair to exporters and importers throughout the country as to have substantial impact on economic growth. The sensitivity of the U.S. stock market to trade agreement prospects attests to that linkage. President Trump is attempting to redress this excess through comprehensive bilateral trade renegotiations, but he risks going too far with his protectionist impulses. He should be supported to the extent he does not overly compromise the principle of competitive advantage in a retaliatory fit of pique. At the same time, the seemingly extra-conciliatory posture of Treasury Secretary Mnuchin should be held in check. In addition, new agreements should ensure effective compliance monitoring and enforcement given the history of trade partners cheating. In any case, give President Trump credit for exposing waste and fraud in trade agreements long kept under wraps. Comparative advantage is still the gold standard for international trade. But heavily one-sided tariffs and other impediments corrupt the principle. Some adjustments to a pure free trade model may be justified because of structural differences between national economies. However, if U.S. trade partners will not mitigate the excess, the U.S. must respond in kind to protect its economic interest. It is likely such resistance would yield concessions to avoid a trade war which is in no one’s interest. U.S. acquiescence to grossly inequitable trade agreements is a fool’s errand.
©2018 William J. Dodwell
William J. Dodwell is a retired corporate executive, management consultant and financial writer in the financial-services industry with particular expertise in the capital markets. Mr. Dodwell has written in professional journals, the trade press and corporate publications. He is a Certified Public Accountant (Inactive) licensed in the State of New York.
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