Financial industry titans came out in favor of increased banking regulation this February, signaling an interesting turn in the debate over new banking reform legislation. The group of financial legends includes household names like Paul Volcker, former chairman of the Federal Reserve; John Bogle, founder of Vanguard Group; George Soros, billionaire investor; among others.

In Pictures: The World's Greates Investors

The Volcker Rule
Volcker's group backs a proposal that would bar FDIC-insured banks from running trading operations for their own account. This proposal has become known as the Volcker Rule. Former Treasury Secretary Nicholas Brady was recently quoted in the New York Times, stating "If you are a commercial bank…and you wish the government to guarantee your deposits and bail you out if necessary, then you can't be involved in speculative activity." (U.S. bailouts date all the way back to 1792. Learn how the biggest ones affected the economy; see Top 6 U.S. Government Financial Bailouts.)

Yet others, such as Soros, claim this proposal does not go far enough. Just as Goldman Sachs (NYSE: GS) immediately opposed increased regulation levels, many suspect the firm would be just as quick to shed the bank to escape regulation. Thus, they argue, the Volcker Rule would still leave many "too big to fail" financial conglomerates threatening the stability of the global economic system.

Soros Group Would Limit Financial Institutions' Size
Those in the Soros group wish for additional rules that would limit financial institutions' size. This advice is straight out of Investments 101. A prudent investor holds small positions in many securities to diversify the overall investment portfolio. By the same coin, Soros wants to diversify the nation's financial institution portfolio so that if one firm fails, it doesn't take everything with it.

Opposition To The Reform Proposals
Opposition to these reform proposals has thus far been led by Lloyd Blankfein, head of Goldman Sachs. Not surprisingly, many opponents are those who have the most to gain from a laissez faire approach. But some more impartial critics believe the current proposals do not address the true causes of the financial crisis.

Blankfein's testimony to Congress' Financial Crisis Inquiry Commission lays out the opposing argument that the financial crisis was not caused by "too big to fail" banks. Rather, he argues, it was a systematic under-pricing of risk, which caused many households and corporations to take on too much debt. (Find out why good intentions can put consumers in an even bigger hole than before; see our article Digging Out Of Personal Debt.)

Blankfein: Three Factors Caused Under-Pricing Of Risk
In his testimony, Blankfein asserts that this under-pricing of risk was not the fault of the banks alone, but rather a result of three larger factors:

1. Large inflows of cash from foreign investors;

2. Interest rates held too low by the Federal Reserve; and

3. U.S. policies that subsidize home ownership.

Arbitrary Limitations On Free Enterprise?
Based on this analysis, opponents claim that the proposed bank regulations will not prevent another crisis, and that such proposals would ultimately amount to arbitrary limitations on free enterprise.

It will be interesting to see how this new legislation develops; but for now, the details of any financial reform package remain vague. Wall Street firms will likely oppose any move toward regulation that will hurt their bottom line. It is easy to vilify Wall Street, as many politicians have done, in light of recent dealings. However, Blankfein is correct in pointing out that not all of the blame lies with them.

Legislation Should Enhance Financial Stability, Not Punish Bankers
Ultimately, I think that increased bank regulation could be a good thing if it is done well. I think we can all agree that the "too big to fail" mentality must end. The well-informed and unbiased perspectives of Volcker, Soros and others serve to add much credibility to the movement for intelligent regulation. It is my hope that with their guidance, any new reform legislation will be more about enhancing financial stability than about punishing bankers.

Five bankers shaped the current financial system - though some didn't live to see the fruits of their labor. For more, read The 5 Most Influential Bankers Of All Time.

Related Articles
  1. Investing Basics

    How to Use Boring CDs to Diversify

    Markets are volatile and are in for more punishment. CDs can help investors earn some interest while they're waiting out the storm.
  2. Investing Basics

    3 Alternative Investments the Ultra-Rich Usually Own

    Learn about the ultra rich and what normally comprises their net worth; understand the top three alternative investments usually owned by the ultra rich.
  3. Investing

    Breaking Down the Federal Reserve's Dual Mandate

    The Fed has been tasked with a dual mandate by Congress to achieve monetary stability. We explain what the dual mandate is and what it means.
  4. Investing News

    Are Stocks Cheap Now? Nope. And Here's Why

    Are stocks cheap right now? Be wary of those who are telling you what you want to hear. Here's why.
  5. Stock Analysis

    6 Hedge Funds With High Dividends

    Understand what value hedge funds can provide investors in the financial sector. Learn about seven hedge funds that pay consistent and high dividends.
  6. Investing

    Why Is Financial Literacy and Education so Important?

    Financial literacy is the confluence of financial, credit and debt knowledge that is necessary to make the financial decisions that are integral to our everyday lives.
  7. Economics

    Should the Fed Be More Worried About Asset Bubbles?

    While the Fed should be concerned that assets bubbles might impact economic stability, monetary policy is not the best tool to mitigate this threat.
  8. Investing

    Which GOP Candidate Brings What to the Table?

    What are the major GOP presidential candidates' economic plans and how do they differ?
  9. Forex Education

    The Most Famous Forex Traders Of All Time

    The five most famous forex traders share common virtues such as strong self-confidence.
  10. Professionals

    Career Advice: Accountant Vs. Financial Planner

    Identify the key differences between a career in accounting and financial planning, and learn how your personality dictates which is the better choice for you.
  1. What are key government regulations that affect investing in the banking sector?

    In the aftermath of the global financial crisis of 2008, the banking sector in the United States became subject to a number ... Read Full Answer >>
  2. Do dividends affect working capital?

    Regardless of whether cash dividends are paid or accrued, a company's working capital is reduced. When cash dividends are ... Read Full Answer >>
  3. Do prepayments provide working capital?

    Prepayments, or prepaid expenses, are typically included in the current assets on a company's balance sheet, as they represent ... Read Full Answer >>
  4. Who do hedge funds lend money to?

    Many traditional lenders and banks are failing to provide loans. In their absence, hedge funds have begun to fill the gap. ... Read Full Answer >>
  5. Does working capital include salaries?

    A company accrues unpaid salaries on its balance sheet as part of accounts payable, which is a current liability account, ... Read Full Answer >>
  6. What licenses does a hedge fund manager need to have?

    A hedge fund manager does not necessarily need any specific license to operate a fund, but depending on the type of investments ... Read Full Answer >>

You May Also Like

Hot Definitions
  1. Section 1231 Property

    A tax term relating to depreciable business property that has been held for over a year. Section 1231 property includes buildings, ...
  2. Term Deposit

    A deposit held at a financial institution that has a fixed term, and guarantees return of principal.
  3. Zero-Sum Game

    A situation in which one person’s gain is equivalent to another’s loss, so that the net change in wealth or benefit is zero. ...
  4. Capitalization Rate

    The rate of return on a real estate investment property based on the income that the property is expected to generate.
  5. Gross Profit

    A company's total revenue (equivalent to total sales) minus the cost of goods sold. Gross profit is the profit a company ...
  6. Revenue

    The amount of money that a company actually receives during a specific period, including discounts and deductions for returned ...
Trading Center
You are using adblocking software

Want access to all of Investopedia? Add us to your “whitelist”
so you'll never miss a feature!