The more aggressively a bank lobbied before the financial crisis, the worse its loans performed during the US economic downturn — and the more bailout dollars it received, according to a study published by the National Bureau of Economic Research last week.
The report, titled A Fistful of Dollars: Lobbying and the Financial Crisis, said that banks’ lobbying efforts may be motivated by short-term profit gains, which can have devastating effects on the economy.
“Overall, our findings suggest that the political influence of the financial industry played a role in the accumulation of risks, and hence, contributed to the financial crisis,” said the report, written by three economists from the IMF.
Data collected by the three authors — Deniz Igan, Prachi Mishra and Thierry Tressel — show that the most aggressive lobbiers in the financial industry from 2000 to 2007 also made the most toxic mortgage loans. They securitized a greater portion of debt to pass the home loans onto investors and their stock prices correlated more closely to the downturn and ensuing bailout.
The banks’ loans also suffered from higher delinquencies during the downturn.
What the economists could not determine definitively was the banks’ motivation for lobbying. If banks were looking to generate income at society’s expense, then it would make sense to curtail their lobbying.
If banks were concerned mainly about short-term profit and not thinking about the long-term consequences, then executive compensation practices should be changed, the report said. And if banks just wanted to inform lawmakers and were overoptimistic about their prospects, it would be more difficult to suggest reforms.
When the bubble burst, banks that spent more on lobbying received “a bigger piece of the cake” from the US$700 billion bailout in the fall of 2008.
As examples, the report cites Citigroup Inc spending US$3 million to lobby against the HR-1051 Predatory Lending Consumer Protection Act of 2001 as well as Bank of America Corp spending US$1 million to lobby on banking and housing issues.
HR-1051 was never signed into law, nor were 93 percent of all bills promoting tighter regulation from 1999 through 2006. However, two bills that significantly reduced restrictions in the mortgage market became law, the American Homeownership and Economic Opportunity Act of 2000 and the American Dream Downpayment Act of 2003.
Citigroup and Bank of America each eventually received US$45 billion worth of bailout funds, more than JPMorgan Chase & Co, Wells Fargo & Co or other large commercial banks.
Now that the Dodd-Frank financial reform bill has passed, big banks have been lobbying aggressively against restrictions they believe are too harsh. Among the top items on the industry’s lobbying agenda are stronger capital regulations, as well as a Consumer Financial Protection Bureau, new rules on derivatives trading and restrictions on proprietary trading.
In an interview on Thursday, Igan said her counterparts at the US Federal Reserve Board have expressed concern to her that “some of the concepts would get watered down in the process because the financial industry is lobbying hard against them.”
On Tuesday, the US House Financial Services Committee voted to delay implementation of derivatives reform for 18 months. Although few expect any such measure to clear the Senate or be signed by the president, some executives on Wall Street are pressing for slower rulemaking.
At an event on Tuesday, Morgan Stanley CEO James Gorman said that implementing reforms too hastily could “tip the world economies into recession.”
The economists’ report outlined the negative impacts of bank lobbying, but Igan said that this time around, Wall Street’s interests may be aligned with the broader economy — if only by happenstance.
She said bank lobbying is “not inherently bad” and current activities may act as a counterbalance to regulators’ post-crisis inclination to keep banks on a tight leash.
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