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Financial Reform legislation details are decided.
June 25, 2010 11:28 AM

Well, it looks like a deal has been struck on the second big legislation of the Obama administration - Financial Reform:

Nearly two years after the American financial system teetered on the verge of collapse, Congressional negotiators reached agreement early Friday to reconcile competing versions of legislation that would transform financial regulation.

A 20-hour marathon by members of a House-Senate conference committee to complete work on toughened financial rules culminated at 5:39 a.m. Friday in agreements on the two most contentious parts of the financial regulatory overhaul and a host of other provisions. Along party lines, the House conferees voted 20 to 11 to approve the bill; the Senate conferees voted 7 to 5 to approve.

But is this a good thing or a bad thing?

While elected officials spent much of their time working out the details of regulating complex derivatives and grappling with whether banks ought to make big bets with their own money, they also set a number of new rules that will directly affect consumers.

Investors and those who advocate on their behalf did not get everything they wanted. Stockbrokers and annuity peddlers are still not required to act in their customers' best interest, for instance. But mortgage shoppers stand to gain under the new rules and millions of people will now have access to a free credit score.

Areas of big change are coming, including a new Consumer Financial Protection Bureau:

The bureau is to be headed by a single director appointed by the president and confirmed by the Senate. The new bureau would write and enforce rules for most banks, mortgage lenders, credit-card and private student loan companies. Smaller banks and credit unions, or those with less than $10 billion in assets, would have to obey the consumer bureau's rules -- but the smaller institutions' enforcement and supervision would remain with their current regulators, said Travis Plunkett, legislative director for the Consumer Federation of America.

Auto dealers, meanwhile, are exempt from the bureau's oversight.

And why exactly are auto dealers exempt?

The vast majority of auto dealers would not be covered by the consumer agency if they only arrange loans through banks, credit unions and industry financing companies such as GMAC. The Federal Trade Commission would retain its oversight of auto dealer activities, but would have new powers to enact regulations more quickly.

Democrats from states with a strong auto industry presence joined with Republicans on the committee last year to try to exempt auto dealers from the agency's oversight.

The White House opposed the exemption, and this year the Pentagon made an unusual public plea to senators to subject the dealers to the bureau's oversight. Top Defense Department officials said young members of the military often were victims of unscrupulous auto deals.

The Senate never voted on an exemption in their version of the financial reform legislation. But senators voted 60 to 30 to instruct their negotiators on the conference committee to include an exemption.

Other areas that have been reformed include Credit Scores, Mortgages, Credit & Debit Cards, Fiduciary Duty, and Equity Indexed Annuities. Check out the details here.

Finally, is there teeth in this bill? Well, it depends on who you listen to:

Analysts had a wide array of opinions on the legislation, and some expected banks to pass higher costs associated with the bill on to consumers. Still others saw it as more of a political statement than a measure that could prevent another financial meltdown.

"They have got their work cut out for them, absolutely," said William Fitzpatrick, an equities analyst who focuses on banks for Optique Capital Management

"The terms of this regulation appear to be extremely onerous on the large banks," he said. "It is indeed a tough bill and you are going to see several measures that are going to weigh on the profitability of the large banks."

"I suspect they are going to have a hard time offsetting the increased regulations," said Mr. Fitzpatrick.

Others disagree:

Richard Bove, a banking analyst with Rochdale Securities, said the bill would not severely curtail banks' operations.

"I don't see there being a tremendous clampdown on the ability of banks to make money," he said.

"The banks will have numerous methods of getting around the most onerous provisions in this bill to maintain their earnings growth," he added. "But the things they will do will increase the cost of banking to everybody in this country."

For instance, Mr. Bove pointed to last year's credit card bill, which led banks to push up rates pre-emptively or reduce customers' credit limits.

"You're going to get a letter from your bank saying you now have to pay $1 to $15 a month to pay for this bill," he said. "The banks are going to get the money back because the consumer is going to pay for the bill, and that's the killer for the consumer."

It's that last point which is ridiculous, especially coming from someone who's been in the industry since 1965. Hasn't Mr. Bove ever heard of the capitalist incentive of competition between firms? Does he expect the entire banking industry to collude in pricing and pass on to consumers the same fee amount? One would think that there would be incentive to find cost savings within each bank, thereby allowing said bank to undercut its competitors by NOT charging that extra fee. Sheesh...!! thinks this is a big deal, too, as the title of their story says: Financial Reform Bill Looks Like Game-Changer.

In addition, Gretchen Morgenson had an important column a few weeks ago detailing this 3,000 page bill, and as always, the devil is in fact in the details:

For decades, until Congress did away with it 11 years ago, a Depression-era law known as Glass-Steagall ably protected bank customers, individual investors and the financial system as a whole from the kind of outright destruction we've witnessed over the last few years.

Glass-Steagall was a 34-page document.

The two bills that the Senate and the House are currently chewing over as part of what may be a momentous financial reordering weigh in at a whopping 3,000 pages, combined.

Well, yes, but it is 2010, not the 1930's, right?

Some will argue that these bills, at around 1,500 pages each, have to be weighty and complex if they are to curb the ill effects of convoluted and inscrutable financial instruments. That makes it doubly disappointing that the bills don't go far enough in bringing greater transparency and better oversight of everyone's favorite multisyllabic wonderment these days: derivatives.

Hard to believe, but this is indeed true:

Despite their ubiquity and the pivotal role they play in modern finance, many derivatives don't trade openly on exchanges as stocks and other instruments do. When an institution buys a derivative like a credit-default swap, for example, to protect itself against the default of an investment like a bond, that transaction is a private contract, struck between it, the seller and perhaps an intermediary, like a bank.

Because private transactions like these can mask big and risky exposures in the markets (think American International Group), financial reformers decided to make derivatives trading more transparent, which is a good thing. Both the Senate and House bills require standardized derivatives to be traded on an exchange or a swap execution facility.

But the devil is always in the details -- hence, two 1,500-page bills -- and problems arise in how the proposals define what constitutes a swap execution facility, and who can own one.

This was a major issue that was supposedly resolved last night:

Big banks want to create and own the venues where swaps are traded, because such control has many benefits. First, it gives the dealers extremely valuable pretrade information from customers wishing to buy or sell these instruments. Second, depending on how these facilities are designed, they may let dealers limit information about pricing when transactions take place -- and if an array of prices is not readily available, customers can't comparison-shop and the banks get to keep prices much higher than they might be on an exchange.

Nobody lets auto dealers, airlines, hardware stores or an array of other businesses sell their wares without a price on the window, the ticket or the tag, but Wall Street is still getting away with obscuring prices in the derivatives market.

To resolve problems that might arise from derivatives dealers controlling trading facilities, the House bill bars them from owning more than 20 percent of a swap facility. The Senate bill, however, has no such limitations.

It is unclear, therefore, what the final bill will allow on this crucial matter. What is certain is this: Banks will lobby hard to be allowed to own swap facilities.

Stay tuned to see how this turned out...

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