Two Thumbs Down on the Financial-Reform Bill

For those of you still recovering from Gary Becker‘s take on immigration, you might want to skip his assessment of the financial-reform bill that looks set for passage. But if you can stomach it, here are a few highlights:

A 2,300-page bill is usually an indication of many political compromises. The Dodd-Frank financial-reform bill is no exception, for it is a complex, disorderly, politically motivated, and not-well-thought-out reaction to the financial crisis that erupted beginning with the panic of the fall of 2008. Not everything about the bill is bad — e.g., the requirement that various derivatives trade through exchanges may be a good suggestion — but the disturbing parts of the bill are far more important. I will concentrate on five major defects, including omissions.

Becker’s first objection:

The bill adds regulations and rules about many activities that had little or nothing to do with the crisis.

Here’s an omission he dislikes:

[T]he bill essentially says nothing about Freddie Mac or Fannie Mae.

And here, in its trenchant entirety, is his final objection:

Many proposals in the bill will have highly uncertain impacts on the economy. These include, among many other provisions, the requirement that originators of mortgages and other assets retain at least 5% of the assets they originate, that many derivatives go on organized exchanges (may be an improvement but far from certain), that hedge funds become more closely regulated, and that consumer be “protected” from their financial decisions. Most of these and other changes in the bill are not based on a serious analysis of what contributed to the financial crisis, but rather are the result of political and emotional reactions to the crisis. Usually, such reactions do more harm than good. That is likely to be the fate of the great majority of the provisions of the Dodd-Frank bill.

Someday, if you’re ever wondering why economists don’t get elected to high office in this country, think back to this assessment by Becker.

Becker’s co-blogger Richard Posner doesn’t go into as much detail but is on the same page:

I agree with Becker’s criticisms of the new law (not quite a law yet-it has not been passed by the Senate, but I am guessing it will be, because an ignorant public demands action). It’s a monstrosity, and a gratuitous one, as there is no urgency about legislating financial regulatory reform. … There are little nuggets here and there, such as the abolition of the fainéant Office of Thrift Supervision, but on the whole, so far as I can judge, the new law is a political measure in the worst sense.


Politicians don't want to hear this, but bills that are shorter, focus on one aspect of a problem, and aren't loaded down with amendments would be preferable to these behemoths on health care and financial regulation.

Of course, that would require the House and Senate to vote on and pass more items and it would not allow anyone to hide horse-traded items such as earmarks in the amendments.

We need financial reform, but passing a bad bill won't protect consumers, even if there is a consumer protection agency. What will protect consumers? Reform of the political finance system and lobbying system so members of Congress aren't beholden to business, the wealthy, and other interest groups as they ignore the voters who put them in office.

Frank Gifford

Sounds like conservative talking points.

Dr J

Yes who needs to "protect" consumers from financial or other products - the USDA should go! let the market sort it out, after the first 1000 people die from tainted meat, or bad over the counter drugs people will know never to buy from that company again! Same goes for finance, What did Madoff really do wrong? people gave him money, and he "invested" it poorly - buyer beware! Forcing banks to actually hold a small fraction of the loan they originate? outragous! They should be able to pass off bad loans to pension funds and collect fees unhindered by abusive government regualation - the freaconomists know best that the market can do no wrong!


Note that neither Becker nor Posner has done much in the way of scholarly work on financial markets. By contrast, many of the recommendations of those who have done such work (e.g., Gorton, Levine, Summers, etc.) happen to be included (in partial form) in the bill. Many of these same writers are also disappointed by the bill, but more by sins of omission than sins of commission.

The first quote from Becker is quite silly. Becker is a Chicago economist! Does he really believe that there are two kinds of bills, ones that are free of politically motivated content and ones that are full of it? Who cares if the bill is 2,300 pages? Finance is complex -- there is a lot that must be spelled out.

The basic problem policymakers face with respect to financial regulation is the following: Public sentiment is strongly behind improved regulation at present, which facilitates action by policymakers. Unfortunately, scholars are divided about what caused the crisis, and therefore what ought to be changed to reduce the frequency and severity of such crises going forward. If policymakers wait for scholars to reach a near-consensus, however, then public frustration with the financial sector will have declined, and lobbyists from financial companies who have a stake in the status quo will regain the upper hand.

The choice that the President and congress have made, therefore, is to extract what seems to be a fairly common core from the more respected theories of the crisis (i.e., moral hazard due to TBTF status, systemic risk, non-transparency of the derivatives market, lack of sophistication among consumers of financial products, etc.), and make fixes for those problems, as much as is politically feasible, into law. They have deliberately ignored the more divisive aspects of the debate precisely because they are divisive. Unfortunately, this means that anyone who has a specific theory of what happened is going to be disappointed since his theory is not being fully translated into policy. But can you really blame politicians, when there is so much disagreement about how this all began?

By the standards of utopia, it is a god-awful bill. By the standards of our relative ignorance at present, and the demands of time, it is barely reasonable. By the standards of the US government, it is really quite impressive. Let's not pretend that politics and incompetence are recent inventions of the Obama administration.



Anything that makes Wall Street poorer sounds good to me. Sometimes the emotional response is the right one. We should never have relied on these despicable crooks to drive America's economy in the first place. If a reckoning is necessary then let it come.


Wells Fargo committed prosecutable crime against us. We lost our home. Something is wrong with this picture. Here are the facts. What BILLs need to pass in order to regulate Wells Fargo's deceptive business conduct and Hold Wells Fargo accountable?

1. it is illegal for Wells Fargo to make mortgage loan to us based on hugely inflated appraisal.

Fact: - Wells Fargo's fraudulent appraisal valued our home at $718,000

- Wells Fargo's own review appraisal valued our home at $475,000

- Nevada Attorney General's office suspended the appraiser's license for committing appraisal fraud on our home.
- Nevada Appraiser Licensing Board mandated the appraiser to complete appraisal fraud course before regaining his real estate appraiser license.

- Nevada Revised Statue NRS 205.372 states that it's category C felony to make mortgage loans based on fraudulent appraisal.

- Cases of Attorney General's indictments against attorneys, loan brokers for teaming up make fraudulent loans to defraud homeowners.

2. it is illegal for Wells Fargo to wrongfully foreclose our home based on fraudulent appraisal and mortgage loan.

You can find all the facts on our website.



By "abolish" the OTS do they mean it will be renamed?


There ought to be a law that states that no bill can exceed 25 pages. This ensures that it is not packed with pork, filled with special exceptions, and ripe for loophole exploitation.

When you see a bill this large, it is NEVER because of great care and detail, but because of exceptions here and there, pork additives, and little cul-de-sacs that allow good lawyers to shoot the gaps legally.

Further, it ensures that almost no one will read every single bit of the bill--the better to sneak in a little help for dear friends.

Someone put it that we have hundreds of thousands of laws that seek to do nothing more than ensure obedience to the Ten Commandments and the Golden Rule.

From now on, if a bill cannot be clearly and concisely stated in 25 pages, it is unacceptable--or must be broken into smaller bills.

Hetty Greene

Glass Steagall was apparently a 34 page document.

Not a good thing you did, Prez. Clinton! (And who was in office in 92 (GH Bush) when the hedgefunders got their privileged tax status.

St. Ronald Reagan was exactly not that.. (Do we still believe in the "AntiChrist??" -- just a question.. in the Middle Ages, it was tossed around all of the time as a term of disapproval!)


No urgency to passing financial reform? Really? (? Seth & Amy)


This legislation is why a pox is upon both their houses. You can only fool all the people some of the time. Its time to vote all incumbents out before our country is totally destroyed by their foolishness, hypocrisy and irresponsible dishonesty.


I don't love the bill either, but I disagree with a couple of Gary's points.
If you look at the delinquency and foreclosure rates for mortgages that Bank of America and Wells Fargo (two of the largest mortgage originators) retained for their own portfolios, vs. those levels for mortgages that they repackage and securitized, you will see that the ratios were about 10 TIMES worse for the mortgages that they securitized. Forcing mortgages originators to have skin in the game gets the incentives right for mortgage originators by internalizing an externality. Gary should reconsider his view.
The reason that placing derivatives on exchanges is important, is that the level of open interest in derivatives can indicate to regulators that there systemic risk in the derivatives themselves. When derivates take the form of private contracts there is no way for the regulators to calulate open interest. For example, there were $600B of credit defaults swaps outstanding on Lehman Brothers compared with Lehman's $200B of debt. When Lehman failed the losses in the system from derivatives dwarfed the losses from Lehman itself (counter party issues made the losses even greater, but that is a separate issue).

M Kagan



I agree with most Becker's conclusions, save one: his dislike of forcing mortgage loan originators to keep a minimum of 5% of the loan asset.

It became a very common practice for shady originators to give low teaser rates that virtually guaranteed the loan would default once the rate reset. It didn't matter to the originator, as he/she would sell the loan (literally) a day or two later.

Retaining some of the loan asset discourages this practice, though I would have liked to have seen a greater precentage than five; alternatively, I would have suggested that an originator must keep the ENTIRETY of the loan for at least six months past the time that an interest rate resets for the LAST time.


The only way to reform healthcare was with a comprehensive bill that tackled both insurance reform and requirements (and financial ability) for the public to carry insurance at the same time - without one, the other was impossible.

Not so with financial reform. Many good ideas (consumer protection agency, derivatives exchange) could be accomplished on their own. It remains to be seen whether the political horse trading larded on comprises a major portion of this bill, or just the requisite grease to get a normal bill through.


Opinions are wonderful things, and the Freakonomics team has lots of them. All of this is meaningless without facts, figures and analysis, but that would be hard, so they don't do it.


For all voters: The choice is as crystal clear as any I can think of. Over the previous 30 years, the republicans have controlled the Presidency for 2/3 of the time, or 20 years. Also, they controlled Congress 40% of the time and controlled it all for 20% of the time. Now, with that much time in power, how is it that this country is in the ditch? Easy, republican governing philosophy, or lack there of, has been an abject failure. If, the electorate wishes to reward republicans for their failure, fine they have the right to do so. Just do the rest of us a favor, we would rather not listen to you whinning about how bad the economy is!

Jake Wagner

What both Paul Krugman and Niall Ferguson ignore is the impact of scarcity of resources on the current economic downturn.

Gary Becker at least recognizes that illegal immigration has an impact on the economy, with his proposal to charge illegal immigrants for citizenship.

The real problem is that the US is running out of resources. This is particularly acute in California, where in spite of abundant rains, the state is still undergoing a "drought" that has partially destroyed agriculture in the San Joaquin valley.

The problem is that the LA-San Diego megalopolis lies in a desert and water is brought in by aquaducts from the North and from Arizona. But the population is drawing down the water supply and is the real reason for the ongoing "drought."

Not only water, but also oil, is becoming scarce. But the recession has kept oil prices lower than the $147 per barrel registered a few years ago. Any drop in unemployment will lead to soaring gas prices.

Illegal immigrants contribute to the US population growth of .9% per year, mostly due to illegal immigration and the increased fertility of illegal immigrants. That growth is not sustainable and inevitably brings down the living standards of Americans.

But resource constraints and the underlying not the most apparent cause of the recession.

Thus we argue about financial reform, which is definitely needed, but the serious underlying problem is not even discussed.

Instead of plans to bring down the US unemployment rate of 9.5%, Obama starts efforts to provide amnesty for illegal immigrants, which will only exacerbate unemployment by encouraging more immigration and increasing the supply of unskilled workers.

Gary Becker is right. Current legislation is based upon political expediency, not sound economics. Illegal



To respond to Becker's points here:

- Why should the bill only address problems that contributed to this crisis? There are other problems which could contribute to the next crisis, or which are bad without being crisis-level.

- Not passing the bill will also not do anything about Fannie & Freddie. Congressional leadership has said that they plan on having a separate bill to deal with Fannie & Freddie.

- The number of pages is misleading, since bills use big fonts and spacing, like this.

Mike B

Oh wow, more "Let's blame Fannie and Freddie for the crisis" BS. I guess it's easy to forget that both entities had been privately owned for decades and were being forced to compete with all of the loan "innovators" that were threatening to make both lending pools obsolete. The best way to reform both of those organizations is to bring them back as a government owned corporation with independence from congress and a charter to provide a stable lending pool to well qualified buyers.

Everything doesn't have to have a profit motive. There is nothing wrong with a few public corporations providing utility services for the public good.


Becker is just spouting one enormous cocakamamy misconception: "Taking precautions is a terrible idea."