Still, during the last round of negotiations, Merkley and Levin managed to pare back some of the worst of the exemptions. In one victory, they eliminated a proposal by Geithner that would have allowed banks to make unlimited trades "in facilitation of customer relations" – a loophole so laughably broad that it would cover, in the words of one Senate aide, "pretty much everything" that banks wanted to do. By June 25th, when the bill headed to its final meeting of the conference committee, it looked like Merkley and Levin would finally get their vote.
But that was before the senator from Wall Street showed up. In the final hours of negotiations, a congressional delegation from New York, led by Sen. Chuck Schumer, decided to take one last run at gutting the Volcker rule. It was as though someone had sent the scrubs off the court and called in the varsity. Schumer, a platitudinous champion of liberal social issues, moonlights as a pillbox-hat bellhop to Wall Street on economic matters. The self-aggrandizing New Yorker has not only fought to keep taxes low on hedge-fund billionaires, he got up onstage with Goldman Sachs CEO Lloyd Blankfein at a Democratic fundraiser in 2006 and performed "nostalgic furniture-store jingles."
This bears repeating: The person in whose hands America had placed its hopes for finance reform was someone who once sang furniture jingles onstage with Lloyd Blankfein.
Now, as the bill headed into final negotiations, the Schumer coalition suddenly decided that the de minimis exemption for banks simply wasn't big enough. In a neat trick, Schumer's crew agreed to keep the exemption at three percent – but they raised the limit dramatically by making it three percent of something else. Instead of being pegged to a bank's "tangible equity," the exemption would now be calculated based on a financial firm's "Tier 1" capital – a far bigger pool of money that includes a bank's common shares and deferred-tax assets instead of just preferred shares. In real terms, banks could now put up to 40 percent more into high-risk investments. "It was almost double what Geithner was talking about the night before," says Merkley. "For Bank of America alone, it comes to $6 billion."
Schumer himself entered the change in the Senate version of the bill – and then asked the House to sign off on it 15 minutes later. Rep. Paul Kanjorski of Pennsylvania, who had worked hard on the Volcker rule, tried to get a vote to block the change. But Barney Frank laid into him. "You had plenty of time with this," Frank barked. "You knew what was coming – siddown."
Thus the Merkley-Levin across-the-board ban on risky proprietary trading became a partial ban in which insurers, mutual funds and trusts are completely exempt, and banks can still gamble three percent of their holdings. In practice, it will be up to future regulators to define how that limit will be calculated – and one can only imagine how far banks like Goldman Sachs will manage to stretch the loopholes in what's left of the Volcker rule. "It's not a total nothing burger," sighs one aide. "But, by the end, it didn't change a whole lot."
If the volcker rule was a regulatory Godzilla threatening to stomp out Wall Street's self-serving investments, the proposal to shut down derivatives was nothing short of a planet-smashing asteroid headed straight at the heart of the financial industry's most reckless abuses. The key battle involved the so-called "Lincoln rule," put forward by Sen. Blanche Lincoln of Arkansas, which would have forced big banks to spin off their derivatives desks in the same way the Volcker rule would have forced them to give up proprietary trading. Banks would have to make a choice: Either forgo access to the cheap cash of the Federal Reserve, or give up gambling with dangerous instruments like credit-default swaps. Banks, in short, would have to go back to making money the old-fashioned way – making smart loans, underwriting new businesses, earning simple fees on customer trades. No more leveraged gambling on whacked-out acid-trip derivatives deals, no more walking around with torches and taking out fire insurance on other people's houses, no more running up huge markers on the taxpayer's dime.
The effort began with an extraordinary scene on the floor of the Senate – one that testifies to the nearly unanimous respect that senators hold for the human loophole machine known as Chris Dodd. In late May, the week the Senate voted on its version of the bill, Dodd came up with a hastily composed, five-page substitute to the Lincoln rule that would create a "financial stability" council with the power to unilaterally kill the rule. Faced with opposition from members of his own party, Dodd agreed to withdraw his substitute two days before the Senate vote – but given his track record of legislative maneuvering on behalf of big banks, his fellow Democrats weren't about to take him at his word. A group of senators from Dodd's own party – including Maria Cantwell of Washington – arranged to stay on the Senate floor in shifts, ensuring that there would be someone there to object in case Dodd tried to push his substitute through during one of those quiet, empty-hall, C-SPAN moments when no one was looking.
The fact that a group of Democrats had to come up with a scheme to prevent one of their own leaders from dropping a roofie in their legislative drinks pretty much sums up the state of affairs in Congress. "Yeah, that's the way it went down," says a Senate aide familiar with the Dodd Watch maneuver.
With Dodd unable to introduce his plan to gut the Lincoln rule, the measure actually passed in the Senate, to the extreme surprise of almost everyone on the Hill. This was a rare example of the Senate leadership not just allowing a vote on a financial reform guaranteed to cost major campaign contributors billions of dollars, but actually passing it.
But the ink was barely dry on the Senate bill before a full-blown mobilization against the Lincoln rule was under way. Just days after the Senate vote, Barney Frank came out and voiced opposition to the rule, saying it "goes too far." He trotted out Wall Street's lame, catchall justification for unfettered speculation: Banks need derivatives to balance their portfolios and "hedge their own risk." Not long after, a group of 43 conservative House Democrats calling themselves the "New Democrat Coalition" refused to support the reform bill unless the toughest part of the Lincoln rule – section 716 – was gutted. "They were threatening to vote against the legislation unless accommodations were made for the banks, and the biggest accommodation was watering down 716," says Michael Greenberger, a Clinton-era financial regulator involved in the talks.
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