Economic Control Rods

Posted May 28, 2010, at 7:03 p.m.

Without the graphite control rods inserted into the block of volatile plutonium, a nuclear power plant would heat up, eventually reach critical mass and melt down into a radioactive mess. The control rods slow the breakdown of the unstable isotope. Like a nuclear power plant, the economy must be controlled with regulations, or, as seen in the fall of 2008, it risks meltdown.

Though the memory fades with each passing month, that near catastrophe lent urgency to efforts to rebuild the controls on the banking and finance sector of the economy. Thankfully, Congress has passed a bill aimed at preventing high-roller investment institutions on Wall Street from dragging the rest of the nation to the brink of the abyss.

Sen. Christopher Dodd, chairman of the Senate Banking Committee, told radio host Don Imus this week that no one will know how well the regulations will work until the next catastrophe comes. “And certainly,” he said, “another one will come.”

The new regulations will “at least minimize the next economic bubble or crisis,” Sen. Dodd said.

A systemic risk council made up of various federal agencies will keep an eye out for the overheated housing market or other sector, he said.

The bill also puts to rest the “too big to fail” notion by ending taxpayer bail-outs. “No longer can you count on the federal government bailing you out. Those days are over with,” Sen. Dodd told Mr. Imus. “If you get yourself in trouble, you’re either in bankruptcy, which is the preferred avenue, or in a receivership where management gets fired, creditors lost, shareholders lose.” Both scenarios ensure that management, creditors and shareholders keep a watchful and cautious eye on the institution.

The bill also creates a consumer protection agency, providing an overdue safeguard for middle-class Americans.

In the months leading up to the 1929 stock market crash, the conventional wisdom was that buying stocks was a no-lose proposition. Because of that sense of security, institutions and individual investors were allowed buy on margin, which is the same as running a tab at the local bar. When stock values tanked, investors were forced to come up with the money they had essentially borrowed from brokers, forcing many into ruin.

In the first decade of this century, real estate was seen as a “can’t lose” commodity. So banks financed purchases beyond buyers’ means, bad mortgages were packaged and resold, and the rest is history.

Doctors say patients can remember they were in pain, but the memory of it does not conjure the feeling of pain. Financial catastrophe has a similar amnesiac effect; once the economy is roaring again, investing institutions will be giddily tallying profits, and elected officials will be loath to get in the way (if not taking bows for restoring prosperity). It happened in the late 1990s, when the Republican-controlled Congress and Democratic President Bill Clinton tore down the wall that separated investment and commercial banks. Without stricter regulations, it could happen again.

A well-regulated economy, even if it means booms are less big, is essential, and Congress must remain vigilant and avoid the temptation to cut it loose.

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