In mid-January, a who's who of Wall Street gathered to hear Paul Volcker, the former Federal Reserve chairman whose role in the White House seemed at best unclear.

As the members of the Economic Club of New York tucked into their wild mushroom bisque and basil roasted chicken at the ornate Grand Hyatt ballroom in Midtown Manhattan, Volcker, 82, warned them against post-crisis complacency.

But few expected him to drive policy in Washington. Despite his gravitas and 6-foot, 7-inch frame, Volcker was struggling to make his presence felt in the administration of U.S. President Barack Obama. He appeared to have little sway on economic decision-making that was steered largely by two veterans of the Clinton administration: Lawrence Summers, the director of the National Economic Council, and Treasury Secretary Timothy Geithner.

Yet just one week later the president unveiled a proposal that put Volcker at the center of his effort to overhaul the nation's financial regulatory system.

Standing in the blue-hued Diplomatic Reception Room beneath a portrait of George Washington, Obama advocated what Volcker had been urging for months -- banning commercial banks from engaging in proprietary trading or owning hedge funds or private equity funds.

If these folks want a fight, it's a fight I'm ready to have, the president declared in a feisty eight-minute statement. The president, who was under enormous pressure to adopt a more combative stance toward Wall Street, referred to Volcker as this tall guy behind me and said he was naming the proposal after him.

The words were barely out of his mouth when the fight started. Financial industry lobbyists and Congressmen alike lined up to call the proposal ill-conceived, old-fashioned, populist and dead on arrival.

In an interview with Reuters, Volcker said the rule would get at the heart of moral hazard -- the tendency of traders and financial executives to take large risks with the expectation of a government bailout if things go wrong.

I don't want to protect institutions that are engaged in essentially speculative activity, he said. The danger has been vastly increased by the reaction to the crisis where everybody was getting saved, to exaggerate a bit, whether they were banks, nonbanks, whether they were engaged in speculative activity or not. If they were big they got saved.

But the effort toward a broad overhaul of U.S. financial regulations suffered a major setback on Thursday after bipartisan talks in the Senate hit an impasse.

Critics of the Volcker Rule don't expect the White House to go to the mat for it. As evidence, they cite the fact that Obama is in an uphill battle to save healthcare reform and that it took more than a month for a scant five pages of legislative language on the proposal to emerge from the Treasury Department.

The White House insists it is as committed to the rule as it was the day the president announced it and Volcker said he sees no evidence to the contrary. My understanding is that the president has been perfectly clear that this is an essential part of a program, he said.

Volcker said a watered down version of regulatory reform would be undesirable. I'm not particularly interested personally in some legislation that passes because it's the only thing that can pass, he said. I think the chances are still you'll get a sensible bill but I sure don't count it as certain.


For as long as any of his friends and associates can remember, Volcker has rarely stepped into the political fray. So they were surprised when he gave Obama a key public endorsement during his campaign for presidency.

During the 2008 campaign, Obama relied heavily on Volcker to help shape his response to the financial meltdown. Volcker's name surfaced in the media as a possible candidate for Treasury secretary or a senior White House adviser. Instead, Obama tapped him to lead a panel of outside experts advising the White House on economic matters.

Volcker, who works out of a suite of offices in Rockefeller Center in New York and only occasionally visits Washington, says he relishes his independence. He was assigned an office in the West Wing but almost never uses it.

I don't want to be inhibited in what I say, he said. I've been inhibited all my life. It's time to be uninhibited.

No one would accuse him of holding back. Volcker has criticized what he calls the reform lite of congressional regulatory reform proposals. And he has kept a hectic travel schedule that belies his age, in Canada one day and Germany the next, as he seeks to drum up international support for a revamping of the financial system.

The people who know him best say outspokenness is part of the package. He doesn't temper his remarks as much as he might have in the past, said his daughter, Janice Volcker Zima. In his view, he's old and it doesn't matter anymore. He thinks (the risk of another crisis) is really dangerous and people need to do something about it.

Friends say the former Fed chairman was surprised when Obama named the Volcker Rule after him. The president's fiery, anti-Wall Street rhetoric in the Diplomatic Reception Room in January catapulted Volcker into the role of populist hero.

He is no populist. During his time at the Fed, both the left and the right criticized his tight monetary policies. To conquer inflation, he jacked interest rates up to 20 percent, sending the economy into a 16-month recession in 1981-82 and causing unemployment to surge. Builders, whose incomes were devastated by the rate hikes, used to send him blocks of plywood in the mail; farmers brought their tractors up to Capitol Hill to protest.

I've always been on the straight and narrow, the rest of it is all interpretation, said Volcker, sitting at his desk in his New York office, adorned by a retro television set with a basic antenna in the corner and pictures of fish on the wall; he is a keen fly-fisher.


The son of a town manager who grew up in Teaneck, New Jersey, Volcker has a no-nonsense style. He was famous during his tenure at the Fed for the shiny suits he wore and inexpensive cigars he relished.

James Wolfensohn, the former World Bank president and a longtime friend who took on Volcker as a business partner after he left the Fed, said Volcker never sought out the trappings of power.

In today's world it sounds rare to see on a Friday night the chairman of the Federal Reserve carrying his bag himself in economy class, smoking the most foul cigars because they were cheap and he enjoyed them, Wolfensohn said.

When Volcker was chosen as Fed chairman by President Jimmy Carter in 1979, his wife's illness prevented her from moving to Washington so he rented a cramped apartment in D.C. and commuted back to New York on weekends on the shuttle.

His daughter, Janice Zima, recalled that when her father worked at Treasury during the 1960s, he drove an old green Ford car with a white stripe along its side. The driver's seat was broken and wouldn't stand up by itself.

We had this old kitchen stool that he ended up sticking behind the driver's seat, she said. He was too cheap, I guess, to go have it fixed.

Volcker remains thrifty to this day. He often takes the bus rather than a taxi in New York and has felt no need to upgrade the metal cabinets and Formica countertops in his apartment, his daughter says.

But friends have noticed more of spring in Volcker's step lately. He got engaged late last year to his longtime assistant, Anke Dening, and surprised his daughter and many of his friends by eloping in mid-February. In a ceremony presided over by a friend who is a judge, the two were married and then took a short honeymoon the Virgin Islands.


His recent call for a stricter approach to banks has resonated with consumer groups and some of Obama's liberal Democratic supporters, who have been frustrated by what they viewed as coddling of Wall Street by the administration.

Just two days before the Volcker Rule announcement, Obama was hit with the worst political setback of his presidency when Republican Scott Brown captured the Massachusetts senate seat that had been held by the late liberal lion Ted Kennedy.

As he made his case for the Volcker Rule, Obama slammed Wall Street for its binge of irresponsibility and pursuit of quick profits that he said had led to the crisis. Even then, skeptics wondered if the announcement was part of a strategy to help Obama rebound by pushing a message that would satisfy voters outraged by Wall Street's excesses and resonate with the liberal base of the Democratic Party.

Senate Banking Committee Chairman Christopher Dodd, a Democrat, told two witnesses after the unveiling of the Volcker Rule that while he supported the proposal, it seemed to many senators to be transparently political and not substantive, and it's adding to the problems of trying to get a bill done.

The proposal was an 11th hour addition to the sweeping legislation under consideration to overhaul the nation's financial regulatory system. The restrictions on banks had not been included in the blueprint for reform Obama sent to Capitol Hill last June.

Volcker dismisses as nutty any notion that Obama rolled out the Volcker Rule in reaction to the Massachusetts election defeat. He and White House officials say the president decided to back the proposal months earlier. One administration official said Obama decided in October to get behind the Volcker plan amid concern some of the newly profitable banks were returning to old practices -- like awarding of big bonuses.

But the details had to be sorted out, they said. Just before Christmas, Volcker met with Summers and Geithner. Obama signed off on a plan in early January, his aides said.


On the day Obama unveiled the Volcker Rule, a frenetic atmosphere reigned in the square Greek Revival building a stone's throw from the White House. Telephones at the Treasury Department were ringing off the hook.

Reporters and lobbyists demanded answers on how the proposal would work. Among other things, they wanted to know where the line would be drawn between proprietary trading and transactions conducted on behalf of customers.

Misconceptions remain -- some commentators claim that Volcker is calling for a return to very narrow retail banking by commercial banks, whereas the rule actually calls simply for a ban on trading not done on behalf of customers.

Financial industry lobbyists said that the day of the roll-out, officials they spoke to were able to offer few answers. They said they were informed that the roll-out of the plan had been steered by the White House.

They basically told people off the record that the proposal was too complicated and misguided, said Tony Fratto, a former Treasury and White House spokesman in the Bush administration and a strong critic of the Volcker Rule. The message was: Don't worry about the Volcker Rule. It's too late for it to get through.

Later that day, financial industry representatives told reporters that Geithner had aired concerns behind closed doors about the limits on banks. He said he feared that they could hurt U.S. firms' global competitiveness.

Geithner attended the Volcker Rule event but stood at a conspicuous distance from Obama. House Financial Services Committee Chairman Barney Frank stood next to Volcker and the Treasury Secretary stood to the right of the senator.

White House aides say that both Summers and Geithner, who initially viewed the proprietary trading restrictions as unnecessary, both now fully support the Volcker Rule on the grounds that it is needed to prevent a crisis that might occur in the future.

Wall Street is taking the Volcker Rule seriously. JPMorgan Chase refrained from buying the U.S. portion of commodities trading joint venture RBS Sempra because of concern about the rule potentially limiting the unit's domestic profitability.

But Wall Street executives are divided on whether it makes sense. In a recent Senate hearing in Washington, JPMorgan Chase's chief risk officer, Barry Zubrow, argued that the Volcker Rule would not have prevented the financial crisis and risks making U.S. banks unproductive.

Other market heavyweights favor the rule, which they say will prevent taxpayers from guaranteeing huge risks taken by behemoth banks, which receive a federal safety net in the form of deposit insurance and access to the Fed's discount window.

In Volcker's view, that safety net is appropriate because banks are at the core of the financial system. But he said it should not be used to underwrite speculative activity.

The industry outcry is paradoxical. They're saying proprietary trading isn't important and at the same time they're saying it would be hard to define or separate out from regular trading on behalf of their customers, William Donaldson, the former Securities and Exchange Commission chairman and a member of the President's Economic Recovery Advisory Board which Volcker chairs.

But if you're running a business you know where your revenues are coming from and who you are dealing with. From an accounting and business strategy perspective you must know, Donaldson said.


The former Fed chairman and the presidential hopeful met at a dinner on Capitol Hill in June 2007 organized by Mark Gallogly, co-founder the New York investment firm Centerbridge Partners and an Obama supporter. Volcker had read Obama's books The Audacity of Hope and Dreams From My Father and liked them.

He was impressed with the young senator's calm, cool, collected personality and his knowledge of issues such as speculative bubbles and financial regulation.

I think he's remarkably well informed, Volcker said in the interview.

Word got back to Obama's campaign headquarters and to economic adviser Austan Goolsbee that Volcker was impressed with the candidate. Goolsbee jumped at the chance to get the economic legend on board.

We don't need the guy's money. We want to pick his brain and see if we can get his endorsement, Goolsbee recalls telling a campaign operative at the time.

What followed was a months-long courtship. In late January of 2008, just days before the Super Tuesday primary contests, Volcker endorsed Obama.

The former Fed chairman is a lifelong Democrat but held moderate political views and had served in both Democratic and Republican administrations. He endorsed Democrat Bill Bradley's short-lived presidential campaign in 2000 but apart from that, had mostly stayed away from the political scene.

It is only Barack Obama, in his person, in his ideas, in his ability to understand and to articulate both our needs and our hopes that provide the potential for strong and fresh leadership, Volcker wrote in a statement that was faxed over to Obama's campaign headquarters and which lent the candidate instant gravitas.

As the financial crisis escalated over the summer of 2008, the Obama team persuaded Volcker to get a cellphone so that they could get in touch with him more easily.

He was a regular on many late-night conference calls as the crisis on Wall Street unfolded. He also joined Obama on the campaign trail, flying down to Miami in the fall for a meeting Obama had convened on the financial meltdown.

But just months into the new administration, Volcker began to confide to friends that his advisory board was being treated as window dressing and that his views were not really being heard within the White House. In a New York Times interview in October, Volcker was asked about media reports he was losing clout. I did not have influence to start with, he said.

An associate of Volcker's, who requested anonymity, said Geithner and Summers felt they were too busy to spend much time consulting Volcker or his committee.

A White House official countered that Volcker has a unique status. He said he is the only outside adviser who has direct access to the president and does not need to go through Summers, whose agency coordinates all economic advice to the president.

Austan Goolsbee, who serves as chief of staff for Volcker's advisory board and is a member of the White House Council of Economic Advisers, dismissed suggestions that Volcker's views were not being heard. Volcker has a self-deprecating sense of humor and that has played into an inaccurate perception in the media that he hasn't been influential on the president's thinking, he said.

The advisory board Volcker leads has had a major impact on the thinking of the president and of the administration on many policy issues, said Goolsbee.


Some critics say Volcker lacks an appreciation for modern innovations. They point, among other things, to a Columbia University luncheon in February 2009, when Volcker quipped that for most people the advent of the ATM machine was more crucial than any asset-backed bond.

During the Reagan-era, Volcker fought efforts to weaken the 1930s Glass-Steagall law separating commercial banking from investment banking. The Volcker Rule would not bring back Glass-Steagall but would revive its spirit.

Princeton University professor Alan Blinder, a former Federal Reserve vice chairman, scoffs at the notion that Volcker's proposals are antiquated.

Just remember the three letters: A-I-G, he said, referring to the giant insurer whose collapse was brought on by derivatives known as credit default swaps.

Volcker's biggest objective is to make sure that risk-taking, especially proprietary risk taking done in proprietary institutions does not fall back on the taxpayer as the ultimate supporter, Blinder said. And he is 100 percent right about that.

Whatever happens, Volcker's Rule has made an impact already, says Donaldson.

It's easier to pass reform lite, he said. It's not so easy to go to another level. That is what I think the so-called Volcker Rule has done. I think it opens up a discussion that hasn't been there before and I think it needs to be discussed.

If the Volcker Rule is shot down, the U.S. Congress could face an unusual challenge.

I tell you sure as I am sitting here, that if banking institutions are protected by the taxpayer and they are given free rein to speculate, I may not live long enough to see the crisis, Volcker told Congress last month. But my soul is going to come back and haunt you.

(Additional reporting by Glenn Somerville, Karey Wutkowski, and Kevin Drawbaugh in Washington and Dan Wilchins in New York; editing by Jim Impoco and Claudia Parsons)