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economic capture and the myth of overbearing regulation

June 7, 2010

There was a time when we worried that concentrations of economic power would destroy competition and even distort the political process. Yet despite the fact that such distortions are in fact occurring in the financial arena, for one, we seem either less concerned or less aware of the problem than when antitrust enforcement was a far more common event. In an excellent opinion piece Reuters columnist, John Kemp has noted that corporate economic power has led to the steady weakening of the regulatory state.

Rather than the state as an overbearing Leviathan, a more accurate characterisation of modern regulatory agencies and legislatures is a hollowed out husk, thoroughly penetrated by the tentacles of private interest.

The powerful players who have captured the global economy defend this turf well and not without a good deal of aggressive bluster.  Deutsche Bank, one of the largest financial conglomerates in the world, is a financial institution at the center of the action.  The conglomerate narrowly escaped failure during the financial crisis (though unlike some of its American counterparts the organization did manage to survive without direct government assistance).   One might have thought that such a near-death experience would serve to chasten its Chairman and CEO, Josef Ackermann. Not so.  Mr. Ackermann has been active in vocally opposed reforms to the global bank regulation regime even as he acknowledges the need for stricter regulation.

Last year Mr. Ackermann repeatedly rejected the notion that very large banks constitute a greater threat to financial stability.  In his view it is “interconnectedness,” not size, that is the problem (as if very large financial institutions are not exponentially more interconnected than small ones!).  At the Davos World Economic Forum in January Mr. Ackermann was among the bankers vociferously opposing major regulatory reforms. More recently, Mr. Ackermann has joined other senior bank executives in warning global reformers that imposing stricter capital requirements on banks will threaten global recovery unless done slowly and with “grandfathering” (of his own bank, no doubt). Proposals to impose strict leverage limits have, in his opinion, “grave conceptual weaknesses.”

Mr. Ackermann has good reason to equate our interests in global recovery with the interests of Deutsche Bank.  According to Peter Eavis’ column Heard on the Street, carried today by Dow Jones, Deutsche is by American measures substantially less capitalized than our own behemoths, including Citigroup, JP Morgan Chase and Bank of America.  Deutsche was also one of the most highly leveraged of the large banks at the time of the financial crisis. Deutsche’s subsidiary in the US, Taunus Corp., the ninth largest bank holding company in the United States with $360 billion in assets, is both the least efficient of the large banks and has the worst, “negative” capital situation (i.e., it would be bankrupt without the support of its parent).  The American Banker’s most recent efficiency rankings show Taunus as moving from an already poor position in 2008 to an abysmal number 148 out of 150 bank holding companies.

In defense of the Senate financial reform bill’s efforts to strengthen capital regulations, Sheila Bair, head of the FDIC and the agency at the front line of bank failures, recently referred to an “unnamed foreign bank” has having “negative Tier 1 capital.”  It turns out that she was referring to Taunus which, as the Wall Street Journal noted today has a “negative 7.58% capital ratio.  Without the rather unimpressive support of the capital of its parent, Deutsche Bank, Taunus’ condition as a standalone bank would be very concerning.

Capital requirements have been aptly described by Jaime Caruana, the General Manager of the Bank for International Settlements, as the “speed limits of banking.”  It is no wonder that they are so adamantly opposed or undermined by banks that cannot or do not seem willing to comply with them.

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