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How a Much-Heralded Bank Reform Proposal Could Actually Blow Up the American Economy

The Brown-Vitter bill has excellent features, but it could also increase risks to the financial system.

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Brown-Vitter would rightly take away the privileges of the big banks and make too-big-to-fail status costly. In effect, it would level the playing field between the banks and the non-banks.

But the larger problem remains. In the realm of finance, big insurers, big commercial banks, and large investment houses extensively compete with each other and many of their activities overlap. The big banks now have the upper hand, and they should certainly face restrictions. But giant insurers like AIG should also have to put up more capital because they, too, put the rest of us at risk. If we focus all our attention on big banks and forget the risks posed by other types of firms, we could set ourselves up for a nasty shock when one of them collapses. University of Massachusetts Boston political economist Thomas Ferguson summarizes the threat:

“Making only the big banks hold more capital is a half-measure. We know what happens if you leave insurers and hedge funds free to play with derivatives or anything else they think they can turn a profit in. We’ve run that experiment. We know for sure it’s a threat to the whole system. With the Euro crisis still raging, it’s hardly a time for half measures.”

It may interest you to know that Sherrod Brown and David Vitter both have strong ties to the insurance industry and have received a high rate of donations from that sector (see Vitter’s donations here, and Brown’s here). Both lawmakers have received more money from the insurance industry than from commercial banks. In a recent article, “ Senators tell Feds to back off bank-centric standards for insurers” you can see Brown and Vitter making arguments against tightening restrictions on insurers that are actually very much like those the big banks are making against their bailout bill. As always, if you want to know what’s going on in Washington, follow the money.

Lynn Parramore is an AlterNet senior editor. She is cofounder of Recessionwire, founding editor of New Deal 2.0, and author of "Reading the Sphinx: Ancient Egypt in Nineteenth-Century Literary Culture." She received her Ph.D. in English and cultural theory from NYU. She is the director of AlterNet's New Economic Dialogue Project. Follow her on Twitter @LynnParramore.