Monday, July 5, 2010

"Reformation Hardware"

During the weeks and months after Wall Street and the financial markets were sent spiraling out of control in 2008, two questions loomed: Could this have been prevented? And what is being done to prevent it from happening again? The prior question was fueled by rage and betrayal, but for all intents and purposes was a moot act of pounding on sand. The latter however, would become and ongoing argument on how to restructure a broken system that devastated millions of lives with global repercussions that have never been seen before.

Government bailouts of financial institutions that were “too big to fail” with taxpayer money is no longer acceptable. When AIG was on government life support, taxpayers footed the bill to the tune of $578.00 per person for every tax paying man, woman and child in the United Sates.

The House and Senate finally reached an agreement on a sweeping overhaul of the nation’s financial architecture and reforming how banks do business. Now all Congress has to do is pass the bill and do it quickly. Here are some of the key points to financial reform and how they will affect everyday people like you and me.

Systemic risk regulation

Systemic risk monitoring: A new, council of regulators will both monitor system-wide risk and advise the Federal Reserve Board - the current primary systemic risk regulator.

Oversight and limits: For the first time, there will be higher capital, leverage and liquidity standards on the biggest, riskiest financial firms, as well as bank-like oversight for large "shadow bank" financial companies like AIG and the mortgage financers that were at the center of the crisis.

Banks will have to hold in capital reserves every dollar that they invest in hedge funds and private equity funds. Additionally, banks cannot bail out their funds.

Bottom Line: Banks and other financial institutions will have to have enough cash on hand to back up their own risky investments so the Government does not have to bail them out.

Taking on Bank Risk:

The final bill ensures that firms don't become too exposed to any single financial counterparty or to their own affiliates. Also, banks will have to hold capital in reserve that reflects all the off-balance sheet debt they could potentially be responsible for in the event of a crisis.

The final bill includes delayed implementation of rules to improve the quality of capital that banks have to hold and ensure that leverage and capital standards are higher in the future than they are today.

Bottom Line: This would regulate and monitor the type of investments and risk that any given bank would take. Making sure that firms do not become overexposed to any one particular investment, like with what happened with the toxic Credit Default Swaps and Mortgage Backed Securities that caused the collapse of 2008.

Abusive mortgage protection

Lenders cannot sell mortgages unless they determine that borrowers can afford to repay - even after teaser rates expire.

Prepayment penalties that can trap borrowers in abusive loans are banned for adjustable rate, subprime, and other risky mortgages, and limited for all home loans.

No more kickbacks for mortgage companies and brokers for steering customers into higher cost loans than they qualify for.

Limiting fees on all loans, and providing extra protections on high cost loans.

Bottom Line: One would need more than just a pulse and the ability to sign your name to get a loan.

How long this recession will last is still unclear. Reformation on the grandest of scales seems to be on its way, but there is no telling what modifications will be made before it gets passed. While we wait and see what transpires we must work on reforming our own foundation as well. If there were one silver lining in the ominous clouds of Wall Street in 2008, it would be the harsh wake up call that what goes up eventually comes down. Using our homes as ATM machines, in anticipation of property values continuing to rise indefinitely was simply irresponsible at any level. We have always been taught to save for a rainy day, and for many of us that rainy day is here. All we can do now is do our best to stay dry, and remind ourselves that what goes down will eventually rise again as well, what we do when it does will illustrate just how much we have learned from the storm that was.

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