Nicholas Brady, “Bright Lines” and Brown-Kaufman

In yesterday’s Financial Times, former Bush (I) Treasury Secretary Nicholas Brady wrote a piece entitled, “We need much simpler rules to rein in the banks.” Mr. Brady argued that “regulation should shift to simplicity, not add more complexity.”

I couldn’t agree more. In fact, on February 4, 2010, my former boss, then-Senator Ted Kaufman (D-DE), delivered a Senate floor speech entitled: “Congress – Not the Regulators – Must Draw Hard Lines.” In that speech, Ted said:

Mr. Brady now seems to agree with Ted Kaufman that we would’ve been better off if Congress had drawn hard lines, rather than leave it to the regulators to develop overly complex regulations (often made so by Wall Street’s assiduous pursuit of loopholes and exceptions). Indeed, the new Brady-Kaufman alliance doesn’t end there. Yesterday, Mr. Brady proposed a “bright line” limit on bank leverage. That’s the same solution that Senator Sherrod Brown (D-OH) and Ted had offered in May 2010 as the Brown-Kaufman amendment to the Dodd bill. Because Mr. Brady is a prominent Republican (writing during the week of the Republican Convention) his piece will resonate with many, which should make bankers nervous. Here’s how Mr. Brady put it:

Brown-Kaufman would have codified into law a 6% leverage limit for bank holding companies and selected nonbank financial institutions. A statutory leverage requirement on banks and financial institutions would require them to hold a minimum of 6% of capital as a percentage of their overall assets. As we argued to the Senate at the time: “This would be a 50% increase over the Fed’s current leverage requirement for bank holding companies. This rule would largely affect the big banks because they tend to hold less capital than small banks. For the twenty largest institutions to meet the small banks’ more conservative leverage ratios they would need to raise more than $300 billion in new capital, shrink in size by $5 trillion, or some combination of the two options.”

Unfortunately, Brown-Kaufman failed by a vote of 33 to 61. Only three Republican senators — Richard Shelby (R-AL), Tom Coburn (R-OK) and John Ensign (R-NV) – joined 30 Democratic senators in supporting it. The Obama Treasury Department (and Wall Street banks) vigorously opposed it. When Ted and I met with Treasury and Federal Reserve officials, those bank regulators made it clear to us that they wanted no hard lines in statute. The bank regulators (and Wall Street banks) wanted the flexibility to coordinate (and lobby) bank capital requirements at the international level.

Mr. Brady makes better sense. As did Ted. As I wrote in THE PAYOFF: Why Wall Street Always Wins, Ted had three great insights. “First, this wasn’t a time for vague legislation that kicks the can back to the very regulators who’d failed in the lead-up to the crisis; Congress needed to draw hard statutory lines, just as it had during the Great Depression. Second, Wall Street’s inherent conflicts of interest had to be resolved through structural reform, such as by reinstating Glass-Steagall or imposing size and leverage limits.” (You’ll have to read the book to learn the third insight.)

Indeed, we believed Brown-Kaufman was a more direct and simple way of achieving the goals of the Volcker Rule (which bans proprietary trading by banks), which has subsequently proved difficult to define by regulation (and, eventually, enforce). Again, why has the Volcker Rule been so difficult to define? Because of obstinate opposition by legions of Wall Street lawyers and lobbyists who have sought loophole after exception – only then to argue that the whole idea should be scrapped because it’s too complex.

Good ideas are one thing. The power to enact them over Wall Street opposition is another. It’s great that the right ideas are spreading and gathering force with such eminent Republican leaders as Mr. Brady. But when it comes to enacting bright lines, Mr. Brady should study the past, or we’re doomed to repeat it.