WASHINGTON — A dramatic proposal that could force banks to spin off their derivatives businesses, potentially costing them billions of dollars in revenue, has run into opposition on multiple fronts as the Senate prepares to take up legislation to remake financial regulations.
Also, leaders of the Senate Banking Committee said Tuesday they had reached an agreement to limit the likelihood that big banks would be bailed out by taxpayers.
Obama administration officials, industry groups, banking regulators and lawmakers from both sides of the aisle have taken aim at the derivatives measure proposed by Sen. Blanche Lincoln, D-Ark., chairwoman of the Senate agriculture committee.
Their main objection: If a central goal of regulatory overhaul is to make financial markets more transparent and accountable, Lincoln’s provision would have the opposite effect. Barring banks from trading in derivatives would force that business into corners of the market where there’s even less oversight, critics warn.
“If all derivatives-market-making activities were moved outside of bank holding companies, most of the activity would no doubt continue, but in less regulated and more highly leveraged venues,” Federal Deposit Insurance Corp. Chairman Sheila Bair wrote in a recent letter to lawmakers.
She said Lincoln’s measure could push $294 trillion worth of derivatives deals beyond the reach of regulators.
If some FDIC-insured banks simply transferred this type of business to affiliated firms, it could still pose a danger because the affiliates would not be required to set aside as much capital as banks to cover losses from derivatives trading, Bair said.
She added that a possible unintended consequence of the legislation “would be weakened, not strengthened, protection of the insured bank and the Deposit Insurance Fund, which I know is not the result any of us want.”
She said this danger exists because financial troubles at an affiliate could in times of crisis threaten the bank.
Lincoln has stood by her proposal, which has garnered support from consumer advocates, saying she wants to protect bank depositors from risky trading activities.
“It ensures banks get back to the business of banking,” said Courtney Rowe, Lincoln’s spokeswoman.
The tentative agreement to limit the chances of future bailouts came as the Senate delayed for another day its initial votes on amendments to legislation to address the causes of the 2008 financial crisis.
Aides to Senate Banking Committee chairman Christopher Dodd, D-Conn., and the panel’s senior Republican, Rich ard Shelby of Alabama, said the two senators had agreed to scuttle a $50 billion fund proposed by Democrats. The fund, which was opposed by the Obama administration, drew criticism from Republicans who had warned that it would promote rather than prevent taxpayer bailouts of failed financial companies.
Under the deal, the FDIC would finance the liquidation of failed financial companies, using a new credit line with the Treasury Department backed by the failed company’s assets. The money would be recouped later through the sale of assets, with shareholders and creditors forced to take losses.
Dodd said he was confident that some important disagreements had been resolved, perhaps putting to rest any further debate on how to prevent companies from being branded “too big to fail.”
“I’m satisfied, as I believe my colleague from Alabama is, that we’ve reached an agreement on the too-big-to-fail provisions,” Dodd said.
Sen. Barbara Boxer, D-Calif., has also proposed an amendment making clear that taxpayers should not pay for future bailouts of failing financial companies, and essentially requiring that the government liquidate assets and put such companies out of business. That amendment is also expected to win bipartisan support.
