Restoring American Finacial Stability Act of 2010 - Continued

Floor Speech

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Mr. KAUFMAN. I rise today to speak once more about our Nation's great Federal employees.

The United States and our allies are engaged in an ongoing effort to disrupt and dismantle terrorist groups overseas. Every day, our troops act with great courage and commitment to take the fight to al-Qaida and its allies. Complementing their efforts are public servants who target individuals providing financial backing and other forms of support to terrorists overseas.

One of the key government officials leading that effort here in Washington is a great Federal employee at the Treasury Department.

Stuart Levey has served as the Under Secretary of the Treasury for Terrorism and Financial Intelligence since 2004. Appointed to the position by President Bush, he was asked to continue after President Obama took office as a testament to his effectiveness and unique abilities. Stuart has done an outstanding job cutting off the flow of money to terror groups and their sponsors, and support for his efforts crosses political divides.

Today, one of the leading state-sponsors of terrorism is Iran. While an array of unilateral and multilateral sanctions remain in place with regard to Iran, many foreign businesses, banks, and other entities do business with Iran, which helps the Iranian government finance its nuclear program and terrorist activities.

In 2006, Stuart adopted a new tactic to deal with this problem. Instead of focusing solely on government action, he began exploring opportunities for cooperation with the private sector and urging private sector institutions to take action.

In this regard, Stuart led an effort to convince foreign banks to cease conducting business with Iran until that country agreed to comply with international banking standards. By showing companies and banks that doing business in Iran has financial and diplomatic repercussions, he has convinced corporations to cut off business with Iran. All of this was done in addition to the more traditional strategies of adding Iranian banks to the U.S. terrorist list and imposing more stringent regulations on American financial institutions.

As Stuart's efforts took off, banks throughout the world--including in China and Muslim-majority countries--began cutting financial ties with Iran. Energy companies have been persuaded to avoid initiating deals to extract Iranian oil and gas, and such action has had far-reaching financial implications.

Our multilateral efforts against terrorism and nuclear nonproliferation have also been strengthened by Stuart's work.

At the Treasury Department, Stuart oversees the Office of Terrorist Finance and Financial Crime, the Office of Intelligence and Analysis, the Financial Crimes Enforcement Network, the Office of Foreign Assets Control, and the Treasury Executive Office of Asset Forfeiture. In his leadership of these offices, Stuart has shaped a new role for the Treasury Department as a key player in national security matters and decisions, ranging from Iran to North Korea.

Before coming to the Treasury Department, Stuart served as Principal Associate Deputy Attorney General at the Justice Department. There, he coordinated a number of the department's counterterrorism activities. He worked for several years in private practice before entering public service in 2001, and he holds undergraduate and law degrees from Harvard University.

I hope my colleagues will join me in thanking Stuart Levy for his achievements and wish him continued success in his efforts, which are ongoing. He and his colleagues working at the Treasury Department on counterterrorism and financial intelligence are deserving of both praise and recognition for all they do to keep Americans safe and to secure American interests, both domestically and abroad.

They are all truly great Federal employees.

I yield the floor and suggest the absence of a quorum.

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Mr. KAUFMAN. Mr. President, I thank my neighbor across the hall from Wyoming. He is a gentleman, as always, and I appreciate it.

I just want to stand and say, from the beginning I have talked about one of the most important parts of this bill is that we make sure we separate commercial banking activities from investment banking activities. It is very important we have commercial banks that are safe, with deposits supported by the FDIC, but that they not be in risky business.

I just want to say, I agree with the Senator from Michigan and the Senator from Oregon that it is absolutely essential we have a vote on Merkley-Levin and find the will of the Senate on the fact that we should not have banks involved in proprietary betting, and that we go with what the President and former Fed Chairman Volcker said, and go with a bill that separates these and does not allow banks to be involved in proprietary trading. It is absolutely essential.

Again, I thank the Senator from Wyoming, a gentleman, as always.

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Mr. KAUFMAN. Mr. President, I rise today, as I have many times this Congress, to talk about the role of fraud at the heart of the financial crisis.

I have previously discussed the urgent need for law enforcement to give high priority to the investigation and prosecution of financial fraud, and for Congress to provide law enforcement with the tools it needs to do so, including increased funding and stiffer sentences.

I was proud to work with Senator Leahy last year on the Fraud Enforcement and Recovery Act. I was proud to work again with Senator Leahy, as well as Senator Baucus, the leader, and many others to include key antifraud provisions in the health care legislation signed into law in March.

Last month, I, along with the other members of the Permanent Subcommittee on Investigations, my Senate colleagues, and Americans watching at home, were treated to a truly revelatory series of hearings chaired by Senator Levin.

Chairman Levin and his staff deserve high praise for their tenacity and diligence: Beginning in the fall of 2008 and culminating this spring, the chairman and his staff reviewed millions of pages of documents, conducted over 100 interviews, and consulted with dozens of experts.

Thanks to the Levin hearings, we now have a thorough accounting of what happened--and what went wrong.

Mortgage origination practices were rife with fraud, and bank management and bank regulators failed miserably in their oversight.

The practice of mortgage securitization allowed everyone in the financial industry to earn lucrative fees and commissions, even though banks knew that these securitized mortgages were filled with liar's loans and other fraudulent products that practically guaranteed their eventual collapse.

At all levels of the industry, compensation structures favored the riskiest loans and the most minimal oversight. As a result, underwriting standards were laughable. Banks didn't care that they were writing bad loans because they did not believe those loans would stay on their books.

The regulators and ratings agencies were totally captured by the banks, due in part to their absolute dependence on the banks for revenue. The Office of Thrift Supervision relied on Washington Mutual for 12-15 percent of its operating budget.

The credit ratings agencies gamed by investment banks, which had reverse engineered their models--bent over backwards to stamp AAA and other investment grade ratings on what was actually junk because they needed the fees.

Investment banks marketed synthetic CDOs, which they had permitted the ``big shorts'' to design so that they were most likely to fail, in some cases without disclosing that material information to their customers and despite their own inherent conflict of interest.

As long as the music played, there was plenty of money to go around. But when the music stopped, banks were bailed out and the American taxpayers were left without a chair.

Fixing the system requires an all out effort by the bank regulators, the FBI, the SEC, and the Justice Department. And Congress should not rest until in its oversight capacity we are convinced that a systemic, strategic and foundational approach to targeting and prosecuting fraud is well funded and well underway.

Bank regulators, especially, must execute a 180-degree cultural turn, assisting the FBI by providing roadmaps to the fraud that has occurred.

But we still need to do far more than just add more cops to the beat and ensure that they're looking in all the right places. We also need to realign incentives so that banks are encouraged to make sound loans, so that credit ratings agencies can dispense untainted evaluations of creditworthiness, and so regulators aren't beholden to those they regulate.

That is why I am proud to support Senator Levin's package of amendments. Each of the eight proposals in the package grows directly out of lessons learned through the Levin hearings.

The Levin-Kafuman package will restore regulatory independence by instituting a cooling off period for regulators--putting a stop to the revolving door between industry and regulator. The amendment will also guarantee that the FDIC as secondary regulator can never again be shut out of an examination by the primary regulator.

To realign bankers' incentives, the Levin-Kaufman package will require that anybody who securitizes a pool of loans must maintain at least a 5-percent stake in a representative sampling of those securities. Other risky lending practices would be banned outright, such as synthetic asset-backed securities, which have no purpose other than speculation.

Finally, the package will improve oversight and operation of the credit ratings agencies by prohibiting them from relying on faulty due diligence and by permitting the SEC to monitor and regulate the methodologies that the ratings agencies employ.

The Levin hearings also set in stark relief the untenable conflicts that rest at the heart of our financial system.

The Levin hearings focused on the residential housing market. But conflicts of interest permeate almost every corner of our capital markets, whether in the context of asset backed securities, or proprietary trading, or a broker selling private order flow into a private dark pool, or the prioritization of trades by a broker ahead of its clients.

We simply cannot leave it to the banks and the brokers to manage conflicts of interest in any way they see fit. If we can learn one thing from the financial crisis, surely, it is that.

Under current law, broker-dealers are not required to disclose conflicts of interest to their clients. They are not required to resolve conflicts in favor of their clients. They are not required to act in the best interests of their clients.

In fact, they are permitted to knowingly fleece their clients, provided the client is ``sophisticated'' enough and provided the broker has disclosed the requisite information about the product.

This must change. We can't expect a full economic recovery without restoring the public's trust in markets. This is why I support, and have cosponsored, two amendments that would impose a fiduciary duty on the part of broker-dealers to their customers, one sponsored by Senator Specter and the other by Senator Akaka.

Imposing such a duty would protect investors and improve the level of integrity in our capital markets. No longer would brokers like Goldman Sachs be able to withhold critical information about its conduct from clients and conceal fraud under the cover of caveat emptor.

Just as important, it would help address the widespread and understandable mistrust of the securitization process, which in turn makes capital more expensive and hinders recovery.

I also support Senator Specter's aiding and abetting amendment, which would reinstate an important deterrent to the sorts of fraud that contributed to our current financial crisis.

On March 15, 2010, I came to the Senate floor to discuss the Bankruptcy Examiner's report on Lehman Brothers and said--as many of us have suspected all along--that there was fraud at the heart of the financial crisis.

Lehman Brothers could not have accomplished this apparent fraud--the use of so-called Repo 105 transactions to ``window dress'' its balance sheet and mislead investors--without the help of its accounting firm.

And that is true of many sophisticated fraud schemes, where the advice or analysis of third parties enables or facilitates the fraud.

Those third parties were answerable to their victims in court, and therefore faced a real deterrent, at least until 1994. That year, in Central Bank of Denver v. First Interstate Bank of Denver, a divided Supreme Court rejected years of settled precedent and limited Federal law in this area to so-called ``primary violators.'' The Central Bank decision, like many others since, reflected the Court's probusiness bias. It also left the SEC alone to bring civil suits against aiders and abettors, and too often left victims holding the bag.

Regulators will fail. When they do, however, we must depend on professionals such as accountants and lawyers to acquit their roles as gatekeepers against accounting fraud, not to materially aid that fraud. One way to make sure they learn their lesson this time around is to reinstitute the ability of victims to seek compensation from these fraud facilitators.

Senator Specter and I have worked hard to make sure that this amendment is narrowly drawn, ensuring that only truly culpable third parties are subject to liability.

The amendment allows suits only against those who have actual knowledge that their conduct is assisting another person to violate the Federal securities laws.

Until those who facilitate the fraud of others understand that they will be held accountable, whether criminally or civilly, we can't hope to change their behavior.

Finally, I want to mention a bipartisan package of antifraud measures that I have worked on with Chairman Leahy and Senators Grassley and Specter.

These measures will deter schemes that damage the economy and hurt hard-working Americans by increasing sentences for securities fraud and bank fraud. They will give prosecutors new tools to investigate and prosecute fraud cases and will foster vital cooperation between regulators and prosecutors. And they will extend important whistleblower protections.

Whistleblowers provide a vital early warning system to detect and expose fraud in the financial system. With the right protections, whistleblowers can help root out the kinds of massive Wall Street fraud that contributed to the current financial crisis.

As I have said before, this is ultimately a test of whether we have one justice system in this country or two. For our citizens to have faith in the rule of law, we must treat fraud on Wall Street like we treat fraud on Main Street. And for our economy to work for all Americans, investors must have faith in the honest and open functioning of our financial markets.

The amendments I have discussed today will promote both the rule of law and faith in the markets two cornerstones of our democracy.

I urge my colleagues to support these amendments.

Mr. President, today I will support the Wall Street Reform Act.

I applaud Chairman Chris Dodd and my colleagues for having crafted a bill that includes many provisions that I support, in particular the establishment of a consumer finance protection division and urgently needed reforms of the over-the-counter derivatives markets. These are legislative achievements that will significantly improve our financial system. I am also pleased that the bill bans stated income loans, which were a major source of fraud at the root of the crisis. I will be watching carefully to ensure the bill is not weakened in conference.

I remain deeply concerned, however, that when it comes to the stability and health of the U.S. financial markets and its institutions, much unfinished business remains. We must never rest in our efforts to prevent another financial crisis like that which occurred in 2007-08, which shattered the American economy and deeply harmed the lives of millions of our fellow Americans. Indeed, much work remains to be done so that we can restore the credibility of our financial markets and the rule of law on Wall Street, both of which are badly in need of repair.

Some of my concerns are rooted in shortcomings of the bill; others neither fell within the scope of the bill's ambitions nor were a part of the Senate debate; and still others fall legitimately on the shoulders of our regulatory and law enforcement agencies.

As for the bill, for the past 4 months I have addressed at length what I believe to be the central issue to preventing future financial crises: Passing laws that will stand for generations to ensure financial stability by separating speculative risky activities from the government-guaranteed portion of our financial industry, as well as by mandating limits on the size and leverage of our shadow banks.

Instead, the bill reshuffles existing regulatory powers that banking regulators already possessed--and failed to exercise in ways that would have prevented the financial crisis. It relies on regulatory discretion to decide limits on the size, leverage and activities of dangerously concentrated financial institutions. Rather than statutorily limit the size and risk of megabanks through limits on unstable nondeposit liabilities, rather than statutorily impose specific and higher leverage requirements on our largest banks, the bill simply hands the responsibility for regulating ``too big to fail'' banks back to the regulators. Moreover, it vests the hopes of the American taxpayers--who should never again be forced to step into the breach in a banking crisis--in a resolution authority limited by U.S. law, which I fear cannot possibly work to resolve large global institutions. I remain deeply concerned that it does not represent lasting and effective reform of our largest financial institutions, which I have said repeatedly have become too big to manage, too big to regulate and too big to fail.

In the next few years, chastened U.S. regulators may try their best to insist that U.S. megabanks not gorge themselves again on highly leveraged risky investments. But one need only look to Europe today to understand that, without additional preventive measures, bailouts lie in our future, too.

I predict Congress will one day revisit these issues, unfortunately in the wake of a future crisis in which average Americans again will be forced to come to Wall Street's rescue to fend off a possible depression. When that day arrives, Congress I expect will pass needed structural reforms, including a version of the Brown-Kaufman amendment preemptively to address the problem of dangerous financial concentration--and also a restoration of the Glass-Steagall separation of commercial and investment banking activities, the repeal of which in 1999 was one of this country's costliest mistakes.

There are other issues that this debate never addressed.

Naked Short Selling--We still have not restored the uptick rule, which worked for 70 years as a systemic check on predatory bear raids. We still have an unenforceable rule that fails to prevent naked short selling of stocks. I remain concerned that until we impose a pre-trade ``hard locate'' requirement, bank stocks in particular will remain vulnerable to predatory bear raids.

Market Structure issues--High frequency trading has echoes of the derivatives market: I have said repeatedly that whenever you have a lot of money pouring into a financial activity, markets that are changing dramatically, no transparency in those dark markets, and therefore no effective regulation, that is a prescription for disaster. That was the case in the over-the-counter derivatives market. And I believe the so-called flash crash of May 6 in our stock market revealed the fault lines that have long concerned me about the structure of our equity markets and how it has come to be dominated by high frequency traders. Congress cannot simply look backward at the last financial crisis; Congress and regulators alike must instead try also to look over the horizon and identify systemic risks before they occur.

As I wrote to the SEC on August 21, 2009, ``The current market structure appears to be a consequence of regulatory structures designed to increase efficiency and thereby provide the greatest benefits to the highest volume traders. The implications of the current system for buy-and-hold investors have not been the subject of a thorough analysis.'' Nine months later, our stock markets failed for 20 minutes to meet their essential function: discover the prices of securities by balancing buyers and sellers. Two weeks later, the SEC and CFTC still cannot say why, but the answer is no doubt wrapped up in the fact that in the past few years technology developments have moved us rapidly from an investor's to a trader's market. Our fragmented market of more than 50 market centers have become dominated by black-box algorithmic and high-frequency traders, and they are too opaque for our regulators to understand or to police.

Fannie Mae and Freddie Mac--My Republican colleagues are correct in pointing out that we must deal with the problems of Fannie Mae and Freddie Mac, which continue to siphon off billions in taxpayer funds. It is wrong and irresponsible to offer rash and unwise solutions, however. Almost all mortgage originations currently receive government support, whether from Fannie Mae or Freddie Mac or from the FHA. Lest there be any confusion, without this government backstop, our housing system and economy could have collapsed. Solving these problems and developing a new mortgage finance system will take a great deal of thoughtful consideration, and I urge the Congress to begin this important work.

Finally, and perhaps of most concern, we simply must concentrate the needed resources and effort that will return the rule of law to Wall Street. The hearings of the Permanent Subcommittee on Investigations, chaired by Senator Carl Levin and in which I was proud to participate, revealed that the U.S. real estate boom was fueled in part by pervasive fraud within the mortgage-securitization-derivatives complex effectively at the heart of Wall Street. Congress in its oversight capacity must ensure that bank regulators, the Federal Bureau of Investigation, the Securities and Exchange Commission and the Justice Department are working together in a foundational, strategic, and coordinated fashion to ensure that every last perpetrator of fraud--from the smallest mortgage broker to the senior-most executives of our most powerful Wall Street institutions--is thoroughly investigated and, where appropriate, brought to justice.

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