Lessons Lost

Posted April 15, 2010, at 7:33 p.m.

The lessons learned from the economic meltdown of late 2008 must not be forgotten. And the political will to reform the nation’s banking and financial systems cannot be squandered. The moment has come for Congress to choose a token oversight approach, or adopt some tough standards that push the onus for sound management back onto the financial institutions, not the American taxpayer.

President Barack Obama and congressional Democrats have crafted a plan to increase scrutiny of banks, but some Republicans are balking at a component of the reform. That component would have banks, not taxpayers, fund the next bailout of an institution that is “too big to fail.” Is this approach going to affect the bottom line of banking institutions? Absolutely. But the alternative, letting American taxpayers pay for private industry solvency, is not acceptable.

It would be easy to conclude the Great Recession of 2008 was an unprecedented “perfect storm” of factors. Those factors include the rise of never-before-seen investment products, which bankers happily sold like Beanie Babies, believing their value would never falter. Another component was the mortgage brokers who believed real estate values would continue to swell by double-digit percentages. And consumers, who ignorantly and blissfully signed loan agreements with payments exceeding their income, also played a part.

But what might seem like an unprecedented perfect storm also can be seen as part of a cycle, as regular as flooding on the Mississippi. The recession was different only in the mechanisms, not the forces of speculation and risk.

The horrors of the Great Depression prompted both parties to enact laws that built fire walls in the economy. One of those walls was the Glass-Steagall Act of 1933, which created the Federal Deposit Insurance Corp., or FDIC. Equally important were the law’s provisions preventing commercial banks from also acting as investment banks. Glass-Steagall was repealed in November 1999 by the Republican-controlled Congress, and signed by Democratic President Bill Clinton.

Another lesson should have been learned in the savings and loan crisis of the late 1980s, which cost U.S. taxpayers $124 billion. Like the current crisis, it had its roots in a dip in housing construction. The severe recession of 1990-1991 may have been caused partly by the savings and loan debacle, some economists say.

The key lesson policymakers seem reluctant or unwilling to learn is that cooling a roaring economy through regulation is the responsible course. Profits may be lower, and proponents of a well-regulated banking and finance industry will not be able to prove that their actions have averted disaster. And this is why the moment for acting is fleeting; once the public is convinced the recession is ending, there will be little interest or commitment in revamping the banking industry.

Rep. Mike Michaud, who supported the House version of banking reform, notes that he voted against the Bush administration’s $700 billion Troubled Asset Relief Program “because it contained no substantial reforms and was simply a handout to the biggest financial firms. … If we don’t act, we run the real risk of repeating the past and further damaging our economy.”

That’s fiscal responsibility of the first order.

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