Risk? What Risk?

J.P. Morgan Chase has hardly helped itself or other major banks in convincing a skeptical public or regulatory-inclined politicians of the argument that too much regulation is being imposed on them. J.P. Morgan has shot itself in the foot with its spectacular after-hours announcement on Thursday that a trader had lost the bank more than $2 billion with bets on complex investments.

The bank’s CEO, Jamie Dimon, has been highly outspoken recently in condemning the increasingly intrusive regulations politicians have imposed on the banks in the wake of the 2007/8 financial crash. He, along with Barclays chief executive Bob Diamond, are furious over new financial rules being drawn up to curb the reckless risk-taking that spawned the crisis, claiming they are expensive and smothering the banks in red tape.

In a 38-page letter recently to shareholders, Dimon lambasted the regulations for slowing lending at ‘the wrong time’ and saying they were ‘not intelligent design’. (See my April 10 Daily Mail article)

He argued that new regulations are causing staggering compliance costs. On top of that, he and other bankers have warned that a looming fall-off in bank profits is likely when regulators implement a ban on proprietary trading by the banks under new regulations.

Some analysts have estimated compliance costs for the U.S. banking sector could cost about $4bn a year.

And some academics have agreed with the bankers, arguing that the Dodd-Frank Act – named after its two main authors, Congressman Barney Frank and Senator Chris Dodd – has moved too far from its original objective to prevent another financial crash. At 848 pages, Dodd-Frank affects almost every aspect of America’s financial services industry – from fair access to credit for consumers to the trading of complex derivatives and reporting executive pay.

For example, John Cochrane, a professor of finance at the University of Chicago, maintains that the legislation has become too heavy-handed. “Everything under the sun gets regulated, with no attempt to measure benefits or costs,” he has maintained.

But the revelation of the $2billion loss is going to make it much harder for the bankers to beat back the regulators.

Noting that Dimon had claimed that compliance costs were going to cost J.P. Morgan upward of $400 million, Frank said in a statement “J.P. Morgan Chase, entirely without any help from the government, has lost, in this one set of transactions, five times the amount they claim financial regulation is costing them.”

He added: “The argument that financial institutions do not need the new rules to help them avoid the irresponsible actions that led to the crisis of 2008 is at least $2 billion harder to make today.”

What is astonishing is that the bank – arguably one of the best run in the U.S. – did not pick up the risky bets until way too late. But also it is disturbing that regulators didn’t notice either.

No doubt U.S. lawmakers are going to probe what failed at the bank and why as well as to question regulators about what went wrong on their side. Any hopes the banks may have harbored of reducing the regulatory burden and of convincing the public that they can be trusted would seem now to misplaced.