Ever since it was first proposed, the financial services industry has launched a withering assault on the Volcker rule, a regulation meant to rein in the ability of banks to gamble with their customers’ deposits. The banks were able to water the rule down before it was passed into law — thanks in no small part to Sen. Scott Brown (R-MA) — and have now submitted a heap of comments to the regulators charged with implementing the rule, in hopes of watering it down even further.

But not all members of the financial industry are against the Volcker rule. In fact, former Citigroup CEO John Reed submitted a letter to the Securities and Exchange Commission saying that the rule does not go far enough in preventing the banks from engaging in risky trading with deposits:

When a firm is focused on market gain, it will employ every available device to achieve those gains – including taking advantages of clients and putting the firm at risk. And. when it is large enough to be a threat to systemic stability, it is able to avoid the constraints of market discipline which apply to smaller actors In short, little will stand in the way of it becoming a threat to systemic stability.

The Volcker Rule is a critical response to this problem. and the proposed rule takes an important step forward in pulling into place the prohibition on proprietary trading and positions in private funds. However, I am concerned it docs not offer bright enough lines or provide strong enough penalties for violation.

Reed called for “specific and vigorous penalties” for traders who break the Volcker rule, as well as a provision requiring banks’ senior officers to sign forms attesting to their firms compliance with the rule.

Reed is no saint when it comes to regulatory matters, as he was instrumental in bringing down the barrier between investment banking and commercial banking in the 1990s, which laid the groundwork for today’s mega-banks and the financial crisis of 2008. However, he has since acknowledged that his position then was a mistake, and has pushed for strong financial reform, including breaking up the biggest banks. (HT: Huffington Post)

One of the most important pieces of the Dodd-Frank financial reform law is the Volcker Rule, aimed at preventing federally-insured banks from engaging in risky proprietary bets and counting on taxpayers to bail them out if those bets go wrong. The deadline for regulatory comment on the rule was Monday night, and it didn’t go quietly. Outside groups submitted 170,000 words worth of comments, most of them (though not all) aimed at weakening the rule before it takes effect in July.

The industry threw “one last roundhouse punch at the law,” and most of the letters from across the financial industry were negative. Among the rule’s most vocal opponents: JPMorgan Chase CEO Jaime Dimon and the U.S. Chamber of Commerce, according to the Wall Street Journal:

Opponents minced few words. J.P. Morgan Chase & Co. said the proposed rule “appears to take the view that banking entities, their customers, and the economy must pay almost any price in order to ensure absolute certainty that there can never be an instance of prohibited proprietary trading.” [...]

“In short, the American engine of economic growth will be deprived of the fuel needed to operate,” the U.S. Chamber of Commerce wrote.

What the industry doesn’t mention in its effort to weaken the rule is just how successful it has been in watering it down already. With the help of Massachusetts Sen. Scott Brown (R), the industry weakened the rule even before it became law, and it has spent the last year lobbying to make it even weaker. By the time it was unveiled, it was so weak that former Fed Chair Paul Volcker, for whom it is named, said he didn’t like it.

And while opponents of the law continue to argue that it will cost the nation’s largest banks substantial sums of money, that is precisely how the law aims to create the long-term economic stability that didn’t exist prior to the financial crisis. As Reuters’ Felix Salmon wrote today, the proprietary trading prohibited by a strong Volcker rule “doesn’t just disappear.” Instead, it moves to hedge funds, brokers, and other “small-enough-to-fail institutions” that aren’t backed by taxpayers:

In other words, there is a list of institutions which will be harmed by the Volcker Rule. Here it is: JP Morgan Chase, Bank of America, Citigroup, Goldman Sachs, Morgan Stanley. These institutions should get smaller. These institutions should be less profitable. There’s no reason to believe that when that happens, the economy as a whole will suffer.

Like with the Dodd-Frank law as a whole, banks and their lobbyists aren’t satisfied with watering down the Volcker rule before it passed. The industry continues to push back against regulations aimed at preventing the sort of crisis that drove the country into a deep recession four years ago, all under the false premise that what is bad for Wall Street’s balance sheet has to be bad for the American economy as a whole.

One of the key reforms included in the Dodd-Frank financial reform law is the Volcker rule, which is aimed at preventing banks from making risky investments with funds that are backed by the federal government. As we wrote when the rule was being debated in Congress, “the overarching goal [of the Volcker rule] would be to ensure that federally backstopped institutions stick to core banking practices such as lending and deposit taking while removing the federal safety net from riskier activities that are divorced from customer services.”

The rule is named after former Federal Reserve Chairman Paul Volcker, one of the foremost proponents of strong financial regulation aimed at preventing a replay of the 2008 financial crisis. When the Volcker rule first became law, Volcker himself was reportedly disappointed in how weak Congress had made it. Now that regulators have officially released a draft version of the rule, the verdict is in — Volcker isn’t on board with the rule:

“I don’t like it, but there it is,” Mr. Volcker told me in his first public comments on the sprawling proposal.

“I’d write a much simpler bill. I’d love to see a four-page bill that bans proprietary trading and makes the board and chief executive responsible for compliance. And I’d have strong regulators. If the banks didn’t comply with the spirit of the bill, they’d go after them.”

As former Sen. Ted Kaufman (D-DE), who was one of the loudest advocates of a strong Volcker rule, put it, “Here’s the key word in the rules: ‘exemption’…Let me tell you, as soon as you see that, it’s pronounced ‘loophole.’ That’s what it means in English.” The law does indeed include wide exemptions and poses hundreds of questions for regulators to consider moving forward (which the banking lobby surely would be happy to provide answers to).

Thanks to the handiwork of Sen. Scott Brown (R-MA), the Volcker rule was watered down before it even got out of the gate. And now it seems like the banking industry is succeeding in turning it into a piece of Swiss cheese that won’t end Wall Street treating federally backed money like chips in a casino.

The Senate Permanent Subcommittee on Investigations released a scathing 650-page report yesterday detailing some glaring examples of Wall Street’s malfeasance leading up to the 2008 financial crisis. Two of the highest-profile culprits in the report are Goldman Sachs and Deutsche Bank, as emails from both institutions reveal that they were selling securities that they knew were toxic and then shorting those same securities to turn a profit.

For instance, one Deutcshe Bank trader, Greg Lippman, described the assets his bank was peddling as “crap” and “an absolute pig”:

– Email regarding GSAMP 06-NC2 M8, an RMBS security that contained New Century loans and was issued by Goldman Sachs: “[T]his is an absolute pig.” (12/8/2006)

– Email describing ABSHE 2006-HE1 M7, a subprime RMBS security issued by Asset Backed Securities Corporation Home Equity Loan Trust, as a “crap deal”; and describing ACE 2006 HE2 M7, a subprime RMBS securitization issued by ACE Securities Corp., as: “[D]eal is a pig!” (3/1/2007)

Goldman Sachs did the same thing (in less colorful language), going so far as to tell investors that it’s interests “were aligned” with their own, even as it was spending billions betting against the very securities that it was selling. In all, Goldman “generated net revenues of $3.7 billion” betting against securities.

Aspects of the Dodd-Frank financial reform law were “designed to address and reduce these conflicts.” The most important of these provisions is known as the Volcker Rule, which would limit the ability of large investment banks like Goldman Sachs to trade for their own account, outside of doing business for their customers. But these very provisions are under attack by Republicans in Congress.

In a hearing today, House Republicans are expected to push the Financial Stability Oversight Council — the new body tasked with monitoring systemic risk in the financial system — to water down the Volcker Rule. Sen. Orrin Hatch (R-UT) said earlier this week that he is concerned that trading restrictions, including the Volcker rule, will simply be “unduly burdensome regulations.” Over at ThinkProgress, Ian Millhiser goes over the potentially criminal aspects of Goldman’s actions.

During the final hours of debate over what became the Dodd-Frank financial reform law, lawmakers inserted an exemption to the Volcker rule, which is meant to prevent banks from trading for their own benefit with federally insured money. Added at the behest of Sen. Scott Brown (R-MA), the exemption allows banks to invest three percent of their capital in risky hedge funds and private equity firms.

This was a lousy compromise that undermined the original goal behind the Volcker rule. Former Federal Reserve Chairman Paul Volcker — for whom the rule is named — expressed disappointment at the time that the rule had been diluted. “Allowing a bank to invest in a speculative fund goes against the very intent of the bill as we seek to define those activities that are worthy of government protection,” he has said.

And now, with financial reform no longer in the headlines, the banks are hoping to make the already weakened rule even weaker:

In comment letters to regulators studying how to implement the rule, banks are seeking laundry lists of carve-outs, including broad exceptions from what is considered proprietary trading and greater freedom to invest in private-equity firms and hedge funds…The length and breadth of the exceptions being sought run the gamut.

Specifically, Bank of New York Mellon, Northern Trust, and State Street are looking to exempt certain investments from counting towards the three percent cap.

Volcker, for his part, has been warning the regulators against watering the rule down any further. “Clear and concise definitions, firmly worded prohibitions, and specificity in describing the permissible activities will be of prime importance for the regulators as they implement and enforce this law,” he said. A group of Senators led by Sen. Carl Levin (D-MI) — who was one of the Volcker rule’s biggest advocates during the financial reform debate — have also penned a letter to regulators stating that “[Congress] provided you with a clear mandate and broad authority to act. The American people are now relying upon you to fully carry out the law.”

American Banker characterized the financial services industry as desiring “so many exceptions from the Volcker Rule’s limits on risky activities that it might as well not exist at all.” If regulators give in to the industry’s demands, the rule will indeed amount to nothing.

As I’ve been documenting, Republicans on the House Financial Services Committee have set their sights on weakening some of the key provisions in the Dodd-Frank financial reform law. One of these is the Volcker rule — named after former Federal Reserve Chairman and current Obama administration adviser Paul Volcker — which is aimed at preventing banks from trading for their own benefit with federally insured funds.

Banks are already thumbing their nose at the Volcker rule and laying the groundwork for a return to risky trading; they’re taking advantage of Dodd-Frank’s infancy, going on new adventures as regulators work out what, exactly, the Volcker rule should outlaw. And the banks are betting that the GOP will push regulators into making exceedingly narrow, so that risky (but profitable) trading can go on unabated.

But Volcker is pushing back, telling regulators to leave the rule more open, thus allowing them to crack down on a potentially wider range of activities:

His suggestion: Bar banks from trading with their own funds if they benefit from any type of government guarantee, such as deposit insurance, these people said. Banks would have to police their own activities to make sure they are in compliance, with Federal Reserve examiners ensuring that is the case…Mr. Volcker’s concern, according to several people familiar with the matter, is that narrow or prescriptive rules would invite gamesmanship on the part of banks and could allow firms to evade the rule’s intent. Already, some banks and their lobbyists are seeking to sway regulators and encourage them to narrowly define certain types of trading activities.

Volcker is not alone in his attempt to push regulators into a more inclusive rule. A group of Senators led by Sen. Carl Levin (D-MI) — who was one of the Volcker rule’s biggest advocates during the financial reform debate — penned a letter to regulators stating that Congress “provided you with a clear mandate and broad authority to act. The American people are now relying upon you to fully carry out the law.” “Congress voted for change and we need the regulators to move forward with change. They shouldn’t be giving away the ranch so we get back in this situation again,” said Sen. Tom Udall (D-NM), one of the letter’s signers.

Volcker was reportedly disappointed in the final version of his rule, after exemptions were added to it in an attempt to win Republican votes for Dodd-Frank, so it’s not surprising that he’d go to bat to prevent even more backsliding. And that he has to wrangle with the regulators at all is symbolic of both the promise and potential pitfalls in Dodd-Frank: depending on how the regulators craft the rules, the law could be extremely effective or simply window-dressing.

Earlier this week, Rep. Spencer Bachus (R-AL), who is in line to become chairman of the House Financial Services Committee if Republicans gain control of the lower chamber, was caught soliciting donations from the banking industry by promising to be easier on the banks than Democrats have been. In return, Bachus is taking aim at some of the crucial reform measures in the Dodd-Frank financial reform law that are supposed to rein in some of the risky practices of Wall Street’s financial behemoths.

First, via Salon’s Andrew Leonard, we have Bachus saying that he would repeal the provision giving the federal government authority to dismantle large failing financial firms:

Republicans would try to repeal the government’s new authority to seize and liquidate large troubled financial firms should they take control of the U.S. House of Representatives next year, a key lawmaker said on Thursday. Representative Spencer Bachus, who is in line to be chairman of the House Financial Services Committee under Republican control, said that section of the new Dodd-Frank financial law institutionalizes government bailouts of “too-big-to fail” institutions and puts taxpayers at risk.

And then MarketWatch reported today that Bachus may also have it in for the Volcker rule, which is meant to prevent banks from trading for their own account with federally insured funds:

Crowley [of the law firm K&L Gates] predicts that Republican leadership in the House Financial Services Committee, the legislative panel responsible for overseeing the implementation of the Dodd-Frank Act, will hold hearings on the Volcker Rule and press regulators to limit costs to the industry as the agencies write the new rules…[Rep. Spencer] Bachus (R-AL), in July, unsuccessfully sought to amend the bank reform legislation with a provision that would have prohibited the Volcker Rule’s implementation unless other countries adopted similar measures.

These are provisions that give federal regulators key tools to both rein in the riskiness of the biggest banks and then liquidate those banks if they still get themselves into significant trouble (without relying on taxpayer dollars).

If Bachus does intend to bog down the implementation of Dodd-Frank, it seems like he’s going to have a receptive crowd of counterparts to work with. For instance, Rep. Jeb Hensarling (R-TX) has expressed a desire to defund the new Consumer Financial Protection Bureau and Rep. Scott Garrett (R-NJ) has said that he would limit funding for regulatory agencies like the Securities and Exchange Commission and the Commodity Futures Trading Commission in order to undermine Dodd-Frank.

During the 20 hour negotiating session that produced what is now the first version of the Dodd-Frank financial regulatory reform bill, conferees added an exception to the Volcker rule — which bans banks from trading for their own benefit with federally insured money — sought by Sen. Scott Brown (R-MA). The exemption allows banks to invest 3 percent of their tier one capital in risky hedge funds and private equity firms and to continue managing those firms.

The namesake of the Volcker rule — former Federal Reserve Chairman and current Obama administration adviser Paul Volcker — had warned against watering it down in precisely this way. “Allowing a bank to invest in a speculative fund goes against the very intent of the bill as we seek to define those activities that are worthy of government protection,” he said. So it shouldn’t come as much of a surprise that he’s disappointed with the final product:

Volcker, the 82-year-old former Federal Reserve chairman, didn’t expect the proposal to be diluted so much, said a person with knowledge of his views. He’s content with language that bans banks from trading with their own capital, the person said.

Sens. Carl Levin (D-MI) and Jeff Merkley (D-OR), who proposed the toughest version of the Volcker rule during the regulatory reform debate, “were also dissatisfied with the result, for the same reasons as Volcker.”

The final bill that came out of conference undeniably has some warts that are unfortunate. In addition to the watered down Volcker rule, it has an unjustifiable exemption for auto dealers from new consumer protection laws and a weakened version of Sen. Blanche Lincoln’s (D-AR) derivatives spin-off. That said, it still make huge strides toward building a financial system that doesn’t have its incentives entirely backwards and that puts consumer protection on a more even-footing with bank profits.

But Volcker’s disappointment shows that passing a single piece of legislation isn’t the end of creating a financial system that’s stable and fair. This point was underscored this week by a New York Times report that the financial services industry is turning its attention from lobbying lawmakers to lobbying regulators who will be tasked with designing and implementing the new rules of the financial road:

Well before Congress reached agreement on the details of its financial overhaul legislation, industry lobbyists and consumer advocates started preparing for the next battle: influencing the creation of several hundred new rules and regulations…[The bill] is notably short on specifics, giving regulators significant power to determine its impact — and giving partisans on both sides a second chance to influence the outcome.

The implementation of some provisions in the bill will quite literally take years, so the banks will have ample opportunity to bend them to their advantage. It’s worth paying attention to.

As the conference committee reconciling the House and Senate versions of financial regulatory reform went through its marathon 20 hour negotiating session on Thursday night, an exception to the Volcker rule — which prevents banks from trading for their own benefit with federally insured dollars — was added at the behest of Sen. Scott Brown (R-MA). The exception, which was pushed by large Massachusetts-based financial firms State Street Corp. and Mass Mutual, allows banks to invest up to three percent of their capital in risky hedge funds and private equity firms and to continue managing those funds.

These exemptions could undermine the effectiveness of the rule, as State Street is a great example of a financial firm that specialized in relatively benign financial practices, but then became systemically important by building up a huge amount of credit risk and engaging in risky trading. Ultimately, it needed to be rescued by federal intervention.

Of course, when he was first elected, Brown said that there would be “no more closed-door meetings or back-room deals by an out-of-touch party leadership.” And now, Brown isn’t even certain that he will vote for the reform bill because of a tiny bank tax levied to cover the cost of the law’s implementation:

On Friday, Brown questioned a provision added to the bill late in negotiations that would charge large banks and hedge funds a fee to generate as much as $19 billion to help cover the cost of the bill. “My fear is that these costs would be passed onto consumers in the form of higher bank, ATM and credit card fees and put a strain on lending at the worst possible time for our economy,” he said in a press release. “I’ve said repeatedly that I cannot support any bill that raises taxes.”

First, it’s worth putting this bank levy in perspective. As Dean Baker, co-director of the Center for Economic and Policy Research, pointed out, “the fee is approximately equal to 0.01 percent of projected GDP over the next decade. If it is fully passed on by financial institutions to customers will cost people an average of $6 a year.”

But more importantly, Brown’s deal strikes at the very heart of the Volcker rule. As former Federal Reserve Chairman and Obama administration adviser Paul Volcker said, “allowing a bank to invest in a speculative fund goes against the very intent of the bill as we seek to define those activities that are worthy of government protection.”

The vote count on financial regulatory reform is complicated by the passing of Sen. Robert Byrd (D-WV), who was a supporter of the effort, making Brown’s vote even more important. Brown was one of four Republicans who voted for the original Senate bill, and the other three — Sens. Olympia Snowe (R-ME), Susan Collins (R-ME) and Chuck Grassley (R-IA) — have thus far been noncommittal as to the reconciled bill.