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Wall Street ‘Hucksters’ Risk Breakup in Kotlikoff Plan: Books

If Laurence J. Kotlikoff had his way, Citigroup Inc. would be dismembered, piece by piece.

Its trading operation would be sold off. So would its investment-banking business. The financial leviathan that Sandy Weill created would be torn asunder, and its remaining asset- management business would swap its debt for equity, turning Citi into one big mutual fund with buckets of assets.

Kotlikoff, an economist at Boston University, wants to radically restructure our financial system, which has proved “fundamentally corrupt, incredibly fragile and never again to be trusted,” as he delicately puts it.

“It’s a system virtually designed for hucksters,” he writes in his provocative book, “Jimmy Stewart Is Dead.”

He depicts a world in which a George Bailey, the honest banker played by Stewart in the film “It’s a Wonderful Life,” would never again be mobbed by depositors anxious to withdraw their money all at once. Everybody in Bedford Falls could grab every last dollar because demand deposits would have 100 percent reserves and banks would be prohibited from borrowing short and lending long.

Banks would resemble mutual-fund firms: Instead of taking deposits and making loans, they would act as simple middlemen, connecting borrowers to lenders and savers to investors. Deprived of the Viagra called federal deposit insurance, these “limited-purpose banks” would allow their customers to gamble, but wouldn’t lay wagers themselves, he says. Their only assets would be things like offices, computers and desks.

Source: Wiley via Bloomberg

The cover jacket of "Jimmy Stuart is Dead: Ending the World's Ongoing Financial Plague With Limited Purpose Banking." The book is the latest by author Laurence J. Kotlikoff. Close

The cover jacket of "Jimmy Stuart is Dead: Ending the World's Ongoing Financial Plague... Read More

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Source: Wiley via Bloomberg

The cover jacket of "Jimmy Stuart is Dead: Ending the World's Ongoing Financial Plague With Limited Purpose Banking." The book is the latest by author Laurence J. Kotlikoff.

Bank Runs

Want to invest in a junk-bond fund? Go ahead. Would you prefer an utterly safe bank account? Then get a “cash mutual fund,” a kind of checking account with 100 percent reserves. This would eliminate traditional bank runs and the need for deposit insurance, says Kotlikoff, who specializes in public finance.

The revamped banks, for their part, would be regulated by a single Federal Financial Authority, not the roughly 115 different federal and state agencies they now face. This FFA would act as a Food and Drug Administration for financial products, ensuring the accuracy, disclosure and proper rating of all securities purchased and sold by funds.

Bankers may deride his proposal as a naive nonstarter sure to limit credit, Kotlikoff says. Yet his arguments have gained support across the gamut of economists, from Jeffrey Sachs of Columbia University to Robert Lucas at the University of Chicago. Even Bank of England Governor Mervyn King has urged the U.K. Parliament to consider his proposals.

Bank Handouts

Kotlikoff writes in a voice thick with sarcasm, calling Wall Street titans “swindlers” who privatize profits and socialize risks. He’s equally harsh on President Barack Obama’s economics team, excoriating it for continuing the “no-strings- attached handout policy” for banks. He punctuates the text with a running “economics diary” that shows how the meltdown has crippled the real economy.

An entry from Aug. 26, 2009, shows how strapped states from Hawaii to Rhode Island are saving money by furloughing workers or closing government offices for part of the week. Another note identifies 10 U.S. states with budget shortfalls running from 12 percent in Michigan to 49 percent in California.

“Meanwhile, Morgan Stanley, JPMorgan Chase and Goldman Sachs are back to ‘God’s work,’ preparing to hand out $30 billion in bonuses,” the economist says.

Kotlikoff is too sensible to suggest that limited-purpose banking would prevent financial panics: “To the enduring consternation of economists, people are human,” he says.

Tyrannous Funds

He seems less sensitive to flaws in the mutual-fund industry, on which his model is based. Though he talks up the heft of the business -- Americans held some $14 trillion in retirement assets mostly in funds before the crash of 2008, he says -- he ignores abuses, including rapacious fees that turn “the magic of compounding returns” into “the tyranny of compounding costs,” as index-fund pioneer John C. Bogle says.

So far, Obama has shown little stomach for radical financial re-engineering. Bankers are meanwhile lobbying against the relatively modest overhaul now wending through Congress.

Yet surely they would find ways to thrive under limited- purpose banking. They are, after all, a resilient breed: They soar and crash in flames, only to rise like the phoenix from the ashes of regulatory breakups and meltdowns. They would, with a little effort, soon be earning their bonuses without gambling the taxpayer’s money and our children’s futures.

Jimmy Stewart Is Dead: Ending the World’s Ongoing Financial Plague With Limited Purpose Banking” is published by Wiley (241 pages, $27.95, 18.99 pounds, 23.30 euros). To buy this book in North America, click here.

(James Pressley writes for Bloomberg News. The opinions expressed are his own.)

To contact the writer on the story: James Pressley in Brussels at jpressley@bloomberg.net.

To contact the editor responsible for this story: Mark Beech at mbeech@bloomberg.net.

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