Volcker: No Need for Commercial Banks to be Hedge Funds

In today’s New York Times op-ed, Paul Volcker gives voice to the recent proposals he and President Obama have floated in their bid to show a serious front on financial regulation.

Here’s what Tall Paul had to say about commercial banks engaging in risky behavior with customer capital:

The point of departure is that adding further layers of risk to the inherent risks of essential commercial bank functions doesn’t make sense, not when those risks arise from more speculative activities far better suited for other areas of the financial markets.

The specific points at issue are ownership or sponsorship of hedge funds and private equity funds, and proprietary trading — that is, placing bank capital at risk in the search of speculative profit rather than in response to customer needs. Those activities are actively engaged in by only a handful of American mega-commercial banks, perhaps four or five. Only 25 or 30 may be significant internationally.

Apart from the risks inherent in these activities, they also present virtually insolvable conflicts of interest with customer relationships, conflicts that simply cannot be escaped by an elaboration of so-called Chinese walls between different divisions of an institution. The further point is that the three activities at issue — which in themselves are legitimate and useful parts of our capital markets — are in no way dependent on commercial banks’ ownership. These days there are literally thousands of independent hedge funds and equity funds of widely varying size perfectly capable of maintaining innovative competitive markets. Individually, such independent capital market institutions, typically financed privately, are heavily dependent like other businesses upon commercial bank services, including in their case prime brokerage. Commercial bank ownership only tilts a “level playing field” without clear value added.

Sounds like a lot less prop trading at JPMorgan and Goldman will be turning in its commercial bank charter any minute.

Read the whole thing:

How to Reform Our Financial System
Published: January 30, 2010