Proposed Reforms (Part 2)

Consumer Lending Rules – Last Wednesday, the House passed a bill by a wide margin to move up the start date to limit banks’ rate increases on existing credit-card balances. The Financial sector swooned by a few percentage points as soon as the bill passed. There will be increased scrutiny of many of the lines of lending from credit cards to student loans.

Credit Default Swaps – Right now, many derivative agreements are private one-on-one contracts in what is called the over-the-counter market. These opaque transactions are outside the view of the public or regulators and are dependent upon the parties remaining solvent. If one party becomes insolvent, it may take the other with it. This lack of transparency in volume, size, and counterparties proved disastrous in the financial crisis.

In the bailout of American International Group, tens of billions of dollars went to settle these contracts to avoid a domino effect. The reform proposals require that many derivatives be traded on public exchanges providing transparency on the volume and size of the market and providing each party an exchange whose creditworthiness would be backed by the entire industry. Forcing these contracts to be traded on an exchange may limit the risk they pose to the financial system.

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