George Goncalves Comments: Worry Over Change To Financial Bill – The Wall Street Journal

The Wall Street Journal, December 3, 2009

A controversial amendment to a far-reaching bill to overhaul the U.S. financial system that would require secured creditors to take losses in the event of a bank failure may not survive in the final legislation. The amendment is "generating a lot of controversy," House Financial Services Committee Chairman Barney Frank (D., Mass.) told Dow Jones Newswires Wednesday. He said he wouldn’t be surprised to see "an effort to knock it out of the bill."

But the debate continues. The amendment is sponsored by Brad Miller (D., N.C.) and Dennis Moore (D., Kan.), and Miller defended it in an interview with Dow Jones Newswires late Wednesday. "I have no reason to believe that the amendment will be dropped altogether," he said. "The modifications that we are considering would not alter the overall effect of the amendment." The amendment would require secured creditors under certain circumstances to take losses of up to 20% should a financial firm fail. The bill cleared the House Financial Services Committee Wednesday by a narrow margin. Frank said the House will debate the bill from next Wednesday to Friday.

The restrictions in the amendment would only impact entities that the Federal Deposit Insurance Corp. cannot currently seize when they are in financial trouble, such as bank holding companies and broker-dealers–but not bank subsidiaries, Miller said. And he said he would support alterations that would exclude certain government securities, and the Federal Home Loan Banks, from the impact of the amendment. The amendment aims to secure collateral for taxpayers in case of a big bank collapse. But the financial sector is concerned that if the bill were to pass with the amendment, it would add significantly to banks’ cost of funding in the securities repurchase market, where financial firms borrow against collateral. Another–likely unintended–consequence would be higher interest costs for the U.S. government at a time when the it is raising record amounts–$1.9 trillion in the year to September 2009 and $1.5 trillion in the current year–to cover trillion-dollar deficits incurred as part of the economic rescue programs. That’s because dealers use the repo market to hedge their exposure ahead of government bond auctions.

Overall, the amendment could make money more expensive for everyone, from businesses to consumers, at a time when the U.S. economy is just beginning to pull out of the deepest downturn since the Great Depression. "The banking system is still pretty fragile," said George Goncalves, head of fixed income rates strategy at Cantor Fitzgerald in New York.