The Volcker Rule - New Yorker

Obama's economic adviser and his battles over the financial-reform bill.

John Cassidy 26 July 2010

• Paul Volcker - former chairman of the Federal reserve
• Volcker Rule - barred banks from speculating in the market, a practice known as proprietary trading, and from operating and investing in hedge funds and private equity funds.
• Volcker Rule restores the legal divide between commercial banking (issuance of credit to households and firms) and investment banking (issuing and trading securities).
• Volcker believes that commercial banks like Citigroup and Wells Fargo are worth of receiving federal assistance and even taxpayer bailouts. In return for this protection, they refrain from risky activities like proprietary trading and hedge funds.
• Actual bill that was passed allowed banks to increase their investment in risky investments up to 40%. Volcker is a little disappointed by this concession.
• Keys to reducing risk

1. Raise the amount of cash that banks are required to hold helps them survive when their risky investments fail.
2. Volcker wanted to restrict banks' risky speculative activity.
3. Break up big banks so that no financial firms are so large and connected to others that their failure means systemic catastrophe.

• The Dodd-Frank legislation contains elements of 1 and 2. If another crisis ensues, stricken firms would be taken over and wound down instead of rescued.
• With Lehman and AIG, they reached a certain size where they were to big to be allowed to fail. With all of them regulated in the same manner, imposing capital requirements would be a better way to reduce risk taking than prohibiting proprietary trading - Githner and Summers held this view.

• If "too big to fail" enters into the equation, who are we going to protect? The banks. What is a bank? The Volcker Rule defines a bank by saying it doesn't invest in speculative activity.