Hensarling Talks Financial Choice Act

Ending a yearlong quest, Hensarling, who is chairman of the House Financial Services Committee, secured passage in the House in early June for a sweeping rollback of the Dodd-Frank Wall Street Reform Act, known as the Financial Choice Act.

Hensarling pushes legislation tethered to a fiercely ideological view of free markets and free enterprise. That philosophical approach is on full display in the Financial Choice Act, arguing that bank regulation has gone too far in the wake of the recession, making it difficult for small banks and credit unions to compete with massive Wall Street banks that can more easily afford the costs of compliance.

The plan has almost zero support in the Senate.

Still, Hensarling says he’s confident President Donald Trump will take much of the policy direction in the bill and implement it through executive action or through changes at the regulatory bodies themselves.

Let’s start with your mentor. How did Phil Gramm’s views influence your philosophy of what role government should play in the economy?

Well, five or six lifetimes ago, when I was an undergraduate at Texas A&M, I signed up for ECON 311 Money & Banking to be taught by, then, Professor Phil Gramm. He was already gaining a reputation on campus as a guy who testified before Congress. So we obviously had to go and listen to him. I guess to some extent, Michael, it’s kind of like something had been removed from my eyes and the world became so much more clear because once you understood economics and economic analysis, it’s almost like no human interaction or phenomena defied analysis.

I became somebody who was committed to the proposition, if in doubt, err on the side of freedom. I think the greatest wealth-creating machine known to mankind was the free-enterprise system. And, there is a distinct difference between business interests and free-enterprise interest. I don’t confuse the two. Some do. I do not. And I just decided at an early age that everybody ought to give back something to the Republic. If I ever had the chance to run for public office, I would.

How free should business enterprise be? You have to have some rules. Where do you draw the line?

Well, you always look at, listen, you want competitive markets, innovative markets, transparent markets. So, you need rules on transparency.

Regrettably, fraud and deception have been around since the dawn of man. You must have laws, and rules, and enforcements to deal with force and fraud and deception.

You need rules dealing with what economists would call “externalities,” for example, in terms of air pollution and water pollution. And I still think that you can have a free-enterprise system that is commensurate with a social safety net, which is very different from a socialized system, or social welfare state.

We’ve tried cutting taxes on the wealthy before, with the hope that they would spend that money to boost the economy and create jobs and that benefits would, to use an old phrase, trickle down. Many concluded that it never does trickle down. What do you think?

Well, I don’t subscribe to the whole class warfare thing. I’m interested in lifting people up. I’m not interested in bringing people down. Equality of outcome is to me not a noble impulse of the society. Equality of opportunity is a noble impulse of society.

But people work.

I don’t believe the guy who puts in 12 hours a day necessarily ought to be compensated the same as the guy who puts in eight hours a day. Society will value services differently, but again, we ought to let people be free to use their innovation, and their labor, and their talents in our economy to the best of their abilities.

Dallas Mayor Mike Rawlings has said that Dallas has a barbell economy, lots of wealthy folks and lots of really poor people, but it’s harder than ever to be middle class in Dallas. Do you see that as a problem?

I believe inequality of opportunity is a big problem, and I think, for example, we have a lot of people who are served by very poor school systems. I think in some respects that we need to make sure that we have a social safety net that obviously is there to help those that are too old, too disabled, too young to help themselves, but to make sure that everybody else who is able-bodied is on some pathway to work, in a good career path, and that they understand that.

The real dichotomy is not regulation vs. deregulation. It’s more smart regulation vs. dumb regulation. And it’s not just dumb regulation. It’s also a regulation that doesn’t follow the rule of law, and it keeps capital on the sideline.

And ultimately, to have the benefits of capitalism, you’ve got to have capital. But if capital is sitting on the sideline because it’s afraid to be deployed, then we have these lagged economic growth numbers that are going to hurt the poor a whole lot more than it’s going to hurt the rich.

We can’t have economic growth if we have public policy that essentially vilifies success and puts an incredible regulatory burden upon our entrepreneurs and small businesses.

Let’s talk about the problem that Dodd-Frank was aimed at preventing from ever happening again, the 2008 financial crisis. You place a large share of the burden, or fault, on government incentives for people to buy homes.

Correct.

We had an erosion of traditional underwriting standards. At the crisis we had roughly half of our outstanding mortgages were subprime mortgages, and three-quarters of those were backed by the federal government, either implicitly or explicitly.

No question, there were a lot of mortgages that were underwater as the foreclosure crisis spread. Lots of people had lost jobs as the financial crisis began.

But the impact on the financial system was triggered by the impact those bad mortgages had on Wall Street, where banks and others had created such reckless securities — and compounded by ratings agency who approved these kinds of strange instruments that nobody had ever really understood.

The rating agencies played a role. There’s no doubt about it. And people trusting what the rating agencies had to say. It’s one of the reasons we need to break up the big monopolies.

So, I’m not a fan of Dodd-Frank, but, frankly, they did some good work in breaking up the rating agency monopoly. That’s one of the good aspects of the bill that I saw in Dodd-Frank.

So, that, certainly, played a role, but the most major role is that in our economy, due to the affordable housing goals of Fannie and Freddie, which were essentially given a government monopoly, we ratcheted up — we, as in previous Congresses, not this part of the we — the affordable housing goals. The traditional underwriting standards were eroded, and all of the sudden the whole system ended up blowing up.

The government didn’t do any good in putting people into homes that, ultimately, they could not afford to keep.

Now, mortgage-backed securities can add a lot of liquidity to our system. There are improvements that need to be made to that particular market that we will make in additional legislation to follow up the Choice Act. But the ability to secure greater amounts of capital and liquidity is a good thing. Eroding traditional underwriting standards through government policy is a bad thing.

Isn’t that one impact from Dodd-Frank, though, is it requires more financial health from the banks but also imposes new rules on loans to discourage reckless lending?

Well, I think, I don’t want it lent recklessly either, and that’s why the Financial Choice Act requires a 10 percent capital ratio in order to have the Dodd-Frank off ramp.

We believe in a completely different answer. [First,] I don’t think you can make an intellectual case that the regulators lacked any regulatory authority whatsoever to have prevented the 2008 crisis. You can make the case that there was regulatory timidity, perhaps regulatory incompetence, regulatory negligence? Maybe people just made mistakes.

But there was no lack of authority whatsoever to have prevented that. And yet, the response was even greater government control over a system that was one of the most highly regulated industries in America. Perhaps on health care and nuclear power was there a more regulated industry in America, and, yet, the whole thing blew up anyway.

You mentioned people being left out of this recovery. But is it the banking regulations that are causing that?

It takes small banks to finance small business. Small business lending has not recovered from the Great Recession. Again, entrepreneurship is at a generational low. People aren’t going out and creating new businesses in their garages.