Back in 1999, when Paul Volcker was guest lecturing at NYU's business school, he asked students if they expected the stock market in the next decade to increase at least 10 annualized percentage points a year? This happened, of course, near the peak of the tech boom. "Every hand shot up," Volcker recalls wryly, "The actual amount of return for that period is zero!"
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At this the 6'7" Volcker erupts in laughter. The words "I told you so," are unspoken. But we can forgive the former Federal Reserve chairman a little smugness. On the day of our visit, Volcker was about to leave New York to join President Obama in signing the landmark financial reform bill. That bill includes a version of the so-called Volcker Rule—a set of restrictions that, among other things, prohibits banks from taking big risks with their own capital.
The rule is a fitting tribute to a towering giant who at times was a lone voice arguing against banking excesses—and whose vision of stricter regulation has come back into the vogue since the financial system imploded two years ago.
Volcker has been straightening out financial messes on the national and international stage for more than four decades. In 1971, Volcker championed breaking the US dollar away from the price of gold. As chairman of the Fed, he helped tame runaway inflation the early 1980s. He was less than enthusiastic, however, about Ronald Reagan's financial deregulation goals, and in 1987, Reagan replaced him with Alan Greenspan. These days, some speculate that had Volcker stayed chairman of the Fed, the country might have skipped the recent meltdown. "If we rewrote history," says Robert Litan, vice president of research and policy at The Kauffman Foundation, "it would be hard not to come to that conclusion."
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Volcker spoke with us at his Rockefeller Center office. His D.C. bill signing was to be followed shortly by a fishing trip, so he was in good spirits—which is to say that his famously stormy mood had improved to just grumpy.
Q. In your view how did consumers fare in the financial reform?
A. They are mainly concerned with consumer regulation part, which is not the center of my interest!
Q. The bill is 2,300 pages, with a lot left up to regulators.
A. A lot is left to regulators. It's going to be very important how supervisors respond. Obviously, they weren't too diligent before the crisis.
Q. Okay. People say the Volcker Rule is so diluted it is hardly worth having at all!
A. Proprietary trading is prohibited. The rule applies to what banks can put into hedge funds—banks are only allowed to invest up to 3 percent of their capital there. I'm satisfied, but I would have preferred they prohibited investment in hedge funds. It's a big step forward.
Q. Banks are talking about combining customer accounts with these trading accounts to get around the rules.
A. Something the regulators will have to keep an eye on.
Q. Has this been a victory for you?
A. I don't know how to respond to that. It's been a victory for the American people.
Q. What's missing?
A. People talk about Fannie Mae and Freddie Mac. That's a challenge for next year and year following. We are going to have to reconstruct the whole mortgage market and you can't do that overnight. The mortgage market now is almost a wholly owned subsidiary of the United States government. Almost all the mortgages made now are insured by the government, bought by the government, and the guys at Fannie Mae and Freddie Mac are the market.
Not much exists without the government running it. I don't think that's what we want. A lot of problems surround the whole mortgage market. It's clear Fannie Mae and Freddie Mac need to go. We don't need these hybrid institutions. You don't know whether they should be responsible to the government or to stockholders. It's an unfortunate invention.
Q. Why can't banks can't offer fair and transparent fees without regulation, and just build business by offering great customer service?
A. I think they get tempted. You don't understand that they like to make millions of dollars personally? There are a lot of services they can provide. Of course, the central service is providing credit responsibly. Banking can certainly be a profitable good business without engaging in some of the extreme activities for which banks were known recently.
Q. Goldman Sachs was recently fined $550 million for its role in trading mortgage securities. Was Goldman punished enough?
A. [Laughs.] The SEC arrives at some judgment, I'm not going to question it.
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- Paul Volcker