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Volker is Right – No Derivatives for Banks

Volker is Right - No Derivatives for Banks

This article was originally published on our Forbes blog and can be found at:

http://www.forbes.com/sites/thesba/2012/05/11/volker-is-right-no-derivatives-for-banks/

No matter how you slice it, banks with FDIC insured deposits are a public utility. They have the ability to borrow at government guaranteed interest rates and should take little risk in order to provide vital banking functions to United States businesses and consumers.

When banks give up FDIC insured deposits, they can do what they want to do with regard to lending, investments, and risk-taking. In that scenarios, rifts will be born by their shareholders, creditors, and suppliers. Until then, taxpayers are the backstop and the 80+ year-old Paul Volker still has it right.

What does this have to do with small business and the economy? A lot. If banks with government guaranteed deposits made low risk loans to small business and consumers, our economy would be much better off. The United States economy would be better off because we would have a balanced risk allocation model where taxpayer guaranteed liabilities would help taxpayer owned businesses grow. These businesses would employ taxpayers and make loans to consumers to buy homes, cars, and charge items for purchase with finance.

Derivatives typically encourage risk taking and so far regulators, management, and directors have had difficult, if not impossible, times managing and accounting for these risks.

It’s not often that I agree with more government regulation for business, but if the government is already in the trade (guaranteeing deposits) the goal has to be to minimize taxpayer risk. It would be like letting private citizens run the military on the taxpayer’s dime.

Warren Buffet calls them weapons of mass destruction. Volker says banks should not use them. I agree with them both; leave derivatives to the private sector to hedge and speculate with 100% private capital. Banks are public utilities with FDIC insured deposits.

Let banks make loans to big businesses and small business with good cash flow, good debt to equity ratios, and good collateral to pledge. That would be good for business, the economy, and taxpayers.

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