Elizabeth Warren on Financial Regulatory Reform

Conservative Joe Scarborough thinks she should be treasury secretary. Lefty Matt Taibbi thinks she should run for president. Wherever you sit on the political spectrum, it's clear that Elizabeth Warren, the Harvard Law professor charged with overseeing the government rescue of the financial system, has struck a nerve with her plain-spoken populism. She took time from preparing her students for their final exams to critique the Obama administration's efforts to stop foreclosures and to tell NEWSWEEK what she thinks is the real solution to our financial mess. Hint: it's not breaking up big banks. Excerpts:

People are talking about an economic recovery, but we haven't fixed the banks yet. Where is the urgency?
The rise in the stock market has lulled some people into believing the crisis has abated. I read the data differently. Families are in more trouble than they were in a year ago, and a large part of the Wall Street boom is the consequence of government guarantees. That's not real recovery.

You've popularized the idea of creating an agency to protect borrowers from abuses like subprime lending. What do you think of Congress's efforts to make it law?
The consumer-agency proposal that's been voted out of committee in the House is strong. It's got a couple of dings that I hope get corrected later, but the proposed agency has the power to reform a broken market. Sen. [Christopher] Dodd's first discussion draft is even stronger than the House version, which is a very good sign. But to get a prediction on what happens next, you need someone who understands Washington politics better than I do. It seems obvious to me what Congress should do, but I'm not the one in charge.

Congress is trying to reform financial regulation, and it can get a little abstract. Where should people focus?
To restore some basic sanity to the financial system, we need two central changes: fix broken consumer-credit markets and end guarantees for the big players that threaten our entire economic system. If we get those two key parts right, we can still dial the rest of the regulation up and down as needed. But if we don't get those two right, I think the game is over. I hate to sound alarmist, but that's how I feel about this.

Should the government step in and break up the biggest banks?
There are a lot of ways to regulate "too big to fail" financial institutions: break them up, regulate them more closely, tax them more aggressively, insure them, and so on. And I'm totally in favor of increased regulatory scrutiny of these banks. But those are all regulatory tools. Regulations, over time, fail. I want to see Congress focus more on a credible system for liquidating the banks that are considered too big to fail. The little guys aren't immortal; they pay for their mistakes. The big guys can't be immortal either. A free market cannot operate in a too-big-to-fail world.

Why are people so angry about the government's efforts to save the economy?
Many Americans want to know if the people in Washington are on their side or on the side of the powerful banks. There should never be a doubt about the point of any government action: it should always be to help families directly, or help markets in ways that help families. If that isn't clear, I think the action is wrong, or the description of the action is wrong.

The Treasury Department just announced it is ramping up pressure on banks participating in its anti-foreclosure plan, which your panel has criticized.
The data on [the administration's foreclosure plan] are very discouraging. The concerns that the oversight panel raised last spring have matured into serious problems. The government's intervention on foreclosures has not been strong enough to get ahead of the problem.

It seems like more should be done, but there are plenty of people in Washington who argue against measures that would help borrowers at the expense of lenders.
People who want to make that argument want to wear blinders about the impact of foreclosures on the rest of the economy. We can get caught in a feedback loop: foreclosures drive down home values, and declining home values increase the number of foreclosures. There are only two solutions to the foreclosure problem: either the government does more, or the government-forces investors to do more. Right now, the investors who own these lousy mortgages are hanging back, not cutting the deals with homeowners that would make sense both for the homeowners and for themselves, hoping instead that the government will put even more money on the table to help them to cover the losses that their own bad decisions have caused.

The administration has been reluctant to pressure the banks because they say they need the financial system's cooperation in their recovery policies.
The notion that we need to ask the permission of the big banks about which approach to use is just wrong. Who's asking the American family which provisions are OK with them? I understand that we need to get the economy back on an even keel, and destroying large financial institutions isn't going to do that, but neither is destroying the American middle class. We need to be asking, what are the best tools to repair the economy? Not, what are the tools most acceptable to the big banks?

You've been working on the Congressional Oversight Panel for a year now …
You're telling me.

… what's next for you?
If [Treasury Secretary Timothy Geithner] does not extend TARP, we will finish our work next June. Now, if he extends TARP, the oversight panel goes six months longer than the TARP program.

You're always mentioned as the potential head of the Consumer Financial Protection Agency.
I'm not going to. I'm teaching my classes, doing my research, and helping out where I can. This is at least what I'm learning from Washington—how to duck an occasional question.