Deregulation: Bad for Cheeseburgers, Bad for Financial Markets

Cheeseburger

Image Credit: Valerie Everett (CC BY-SA 2.0)

Yesterday in the House Financial Services Committee, a new bill was considered that would weaken a key piece of financial reform. Speaking in support of the bill, Rep. Steve Stivers (R-OH) argued that this new piece of regulation was important because of “delicious cheeseburgers.”

H.R. 4166, the “Expanding Proven Financing for American Employers Act,” would create new exemptions from the rules in Dodd-Frank that require the financiers packing up new securities to retain a stake in their new products – rules put there to ensure that they have skin in the game.

The bill would allow financial firms that package up a product known as a “collateralized loan obligation,” or CLO for short, to escape the requirement that they hold onto a piece of the CLOs risk – a requirement to hold 5% of the total risk of the CLO, to be exact.

The Ranking Member of the Committee, Rep. Maxine Waters (D-CA), made a number of points against H.R. 4166:

“I’m baffled by legislation such as this… the 2008 crisis was caused – in large part – by mortgage companies that originated loans to borrowers that had no ability to repay…To address this problematic “originate to distribute” model, Dodd-Frank included an important component known as risk retention, or “skin-in-the-game.”  In essence, Congress told loan originators and securitizers to “eat their own cooking” before selling off their investments to others… H.R. 4166, takes us in the wrong direction, essentially exempting most securitizations of corporate loans from risk retention.

 

…CLOs are often used to finance private equity takeovers of companies through “leveraged buyouts.” The industry advocated for the exemption contemplated in this bill when they wrote letters to the regulators during the comment period.

Regulators heard their arguments, and rejected their proposal.  In fact, regulators pointed out that the leveraged loan market may be getting overheated, and that “characteristics of the leveraged loan market pose potential systemic risks similar to those observed in the residential mortgage market.”  …Mr. Chairman, when our banking regulators tell us there may be a bubble, I think we ought to listen.”

In response to the Ranking Member, Rep. Stivers tried out an argument…about cheeseburgers:

“Wendy’s International, a delicious food company based in my district…they have $246 million of collateralized loan obligations. Without that, they would not be able to make the delicious cheeseburgers you rely on every day.”

What Rep. Stivers doesn’t mention is that the reason Wendy’s needs so much borrowing, and is apparently pushing for weaker rules –  and the reason they are already so leveraged that they wouldn’t qualify for the exemption for responsibly underwritten loans that regulators have already granted –  is that they are doing a massive stock buyback which cashes out their shareholders. Although the buyback benefits current shareholders, it comes at the expense of leveraging up the company massively and threatening the future of franchisees. In other words, this borrowing isn’t for hamburgers, it’s to make billionaire shareholder Nelson Peltz richer to the tune of hundreds of millions of dollars.

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