The EU-US Divide

Dim Prospects for Financial Reform Summit

By SPIEGEL Staff

Part 2: US Not in Favor of Major Changes

It is only too convenient that Blankfein's predecessor at Goldman Sachs now works in Washington, as treasury secretary, which puts him only one garden gate away from the president's White House. Treasury Secretary Henry Paulson sees the world through the same lens as Blankfein. Anxious not to dry up business on Wall Street, Paulson is not only bailing out the banks with taxpayer money, but is also not doing taxpayers a favor by imposing adequate rules. The US government has known for years that the country's financial system rests on shaky ground, with its banking regulatory system scattered across five government agencies, as well as its highly risky hedge fund industry, which has made an art out of turning debt into profit.

For this reason the IMF, which, since the Asian crisis, now carefully examines countries to assess the stability of their financial systems, has been begging for years to be allowed to do its work at home in the United States. IMF special investigators are itching to interview bank executives, pay a visit the Federal Reserve Bank and subject the financial industry to a so-called stress test.

Treasury Secretary Henry Paulson finally agreed, but under one condition: The final report could not be presented until 2009, after the Bush administration has left office.

The financial crisis has now accelerated the stress test and taken it from the drawing board to the real economy. But conclusions should not be drawn, if possible. Why? Because the financial industry contributed about 30 percent of total corporate earnings in the United States in 2007.

Little Enthusiasm for European Proposals

None of the current political leaders wants to jeopardize this profitability -- despite a disaster that has cost billions, despite the nationalization of entire financial institutions and despite the millions in bad mortgage loans and an imploding Wall Street. If the Germans had their way, high profit margins would become a thing of the past. The US financial industry would see itself thrown back to the level of a local mortgage bank.

Under these circumstances, the US authorities are not enthusiastic about proposals put forward by individual European governments to raise the equity ratio for all credit transactions. This would restrict borrowing to those who could provide significant savings as collateral. And it would put an end to the business model of many Wall Street banks -- issuing loans on debt. Hedge funds, which generally have little savings, would be practically dried up by equity regulations.

Given these considerations, American experts advise against such a de facto liquidation of this part of the financial industry. "Hedge funds are part of the worldwide brain industry," says Sebastian Mallaby, the son of the former British ambassador to Germany and director of the Greenberg Center for Geoeconomic Studies in Washington. Eliminating them, according to Mallaby, will only slow down growth and reduce prosperity.

Washington is even less enthusiastic about European plans for the IMF. The Washington-based organization has 2,500 employees from around the world who spend much of their time monitoring the financial condition of nations. When financial shortfalls arise, the IMF comes to the rescue with loans. Germany and other countries would like to assign the organization a leading role in supervision of the banking world. An early warning system could be installed that would monitor all major transnational transactions and all so-called financial innovations. The system would enable anyone to determine what is happening in individual markets.

No Mention of Increased Oversight

Mallaby calls it a risky idea. More transparency, he says, would strengthen the herd instinct, because it wouldn't just illuminate the relatively unprofitable transactions, but would also shine the spotlight on the lucrative ones. "Most people who demand transparency don't know what they are talking about," he says.

Thus, Washington is sufficiently vague in its draft version of the final communiqué. There is no mention of increased regulation or more attentive oversight. On the contrary.

The Americans are unwilling to transfer their competencies to supranational entities. At best, they could be persuaded to support a call for heightened cooperation among central bankers, like European Central Bank President Jean-Claude Trichet, and the heads of international agencies like IMF Managing Director Strauss-Kahn.

The organizations, according to the draft document, should "strengthen their cooperation and undertake significant joint efforts to combine improved macroeconomic analysis with smart oversight." This is the sort of thing people say when they have no desire to say very much at all.

Similarly noncommittal language continues throughout the document. The draft communiqué supports "common principals for reforms in the financial markets" and demands an "acknowledgment of an open, global economy." It is seen as unlikely that Europeans will manage to achieve significant corrections at the upcoming summit meeting. The group will initially focus on the causes of the financial crisis. Individual working groups will then form to develop reform concepts for later meetings.

But the longer the discussion lasts the more uncertain do the chances of comprehensive reform become. Experts predict that once the worldwide financial industry has pulled itself together again, support for major government intervention will decline even further.

The Europeans cannot even count on the support of the big emerging economies, which will be represented at the summit. China, for instance, as America's biggest creditor, has a direct interest in the well being of the American banking sector. The Chinese hold a large share of their foreign currency reserves in US dollars. And other governments are also pursuing policies that are only partially compatible with the European plans.

A few days ago, Russian President Dmitry Medvedev wrote a letter to the German chancellor to inform her that he fundamentally supports the European line. At the same time, he also made it clear that Russia is also pursuing other goals.

The Russians want the ruble to become a "regional lead currency" for the greater Eurasian region in a new global financial system -- and Moscow to become "one of the leading world financial centers."

By Uwe Klussmann, Christian Reiermann, Michael Sauga, Hans-Jürgen Schlamp, Gabor Steingart and Wieland Wagner

Translated from the German by Christopher Sultan