Battle lines have solidified in the four years since enactment of the Dodd-Frank financial regulation reform law (formally, the Wall Street Reform and Consumer Protection Act of 2010). Opponents argue that the law harms the economy and should be repealed. Proponents oppose legislative changes, even potential improvements, on the grounds that opening up the legislation will weaken it or even lead to repeal.
We have spent the last two years analyzing implementation of the law, while assessing its impact on financial stability, economic growth and consumer protection.
On the one hand, many of the core provisions of Dodd-Frank are working well. Higher capital standards and the addition of liquidity requirements have made financial institutions more stable while protecting taxpayers against future bailouts.
Setting up the Consumer Financial Protection Bureau (CFPB), the only regulator to meet all of its Dodd-Frank rule-making requirements on time, has gone smoothly on the whole. New rules make it less likely that an institution such as AIG will slip between regulatory cracks to threaten financial stability. Moving most derivatives to centralized clearing has increased transparency and promoted financial stability. The Federal Deposit Insurance Corporation (FDIC) has exercised its new authority to develop a failure resolution regime, which, if effective, would mark a major step forward in addressing the too-big-to-fail problem.
But Dodd-Frank is not perfect; it should be improved.
It is a big bill written under time pressure, with some provisions that sacrifice economic growth while doing little to stabilize the financial system. The swaps push-out provision for example, does not work in combination with the Volcker Rule, which limits proprietary trading. The Volcker Rule regulations proved difficult to write with regulatory in-fighting and delays, resulting in a rule that was years late, overly complicated, and difficult to administer in practice. The assignment system for credit ratings is unworkable. And, it makes no sense for most auto loans to be outside the mandate of the Consumer Protection Bureau, when these are among the most important financial transactions for many families.
A positive note on implementation of the law is that financial regulators have achieved some notable successes using their new authority. The FDIC’s “single point of entry” approach to its new failure resolution authority is well-conceived, though we will not know whether it succeeds until the next crisis. When the
When CFPB conducted rule-making in a transparent manner, it produced high-quality regulations. New capital and liquidity rules set by the Federal Reserve in conjunction with other regulators increase financial stability. The Office of the Comptroller of the Currency (OCC) is taking steps to improve its examiner force, which will beef up the most important line of defense against financial malfeasance.
Regulators have also made their fair share of mistakes. The Financial Stability Oversight Council (FSOC) has not been sufficiently transparent about its actions, especially the process by which it has designated nonbanks as systemically important financial institutions (SIFIs). The CFPB at times has not lived up to its own standard for transparency. The Federal Reserve has been slow to promulgate a rule on the proper level of debt that a bank holding company must hold to create a “debt shield” against too-big-to-fail problems. The Office of Financial Research has struggled to establish itself as an independent voice and data standard setter.
Regulators at times have worked at cross-purposes. The Securities and Exchange Commission (SEC) and Commodity Futures Trading Commission (CFTC) have promulgated divergent rules on the treatment of international derivatives. The two agencies even have different definitions of what constitutes a U.S. person. The Federal Reserve has moved toward forcing U.S. and foreign banks to hold separate capital that cannot be moved even while the FDIC looks to address failing banks on an international basis.
There are areas where Dodd-Frank either missed opportunities or made mistakes. The CFPB, for example, should have its own, independent inspector general. The Fed should be required to tailor capital rules designed for banks to the new non-banks such as insurance companies that it now regulates. The SEC and CFTC should be merged and given independent funding. New legislative requirements for additional transparency for financial regulators can improve outcomes. Reforms of the housing finance system and of the bankruptcy code for financial institutions have yet to be enacted.
Any piece of major legislation will contain some mistakes. At the same time, the reality is that Dodd-Frank is here to stay. Rather than tilt at repeal, it would be better for opponents to embrace steps to improve the law’s effectiveness. The changes described above will strengthen, not weaken, financial regulation. Supporters would do well to solidify the law by embracing these sensible changes.
There are bipartisan efforts that offer solutions. A noteworthy example is a proposal from Sens. Susan Collins (R-Maine), Sherrod Brown (D-Ohio), and Mike Johanns (R-Neb.) that instructs the Fed to tailor capital standards to the particular circumstances of firms such as insurance companies. Such improvements to Dodd-Frank would ensure that we find the right balance between improved regulation to stabilize the financial system while ensuring that the financial sector promotes sustained economic growth and job creation.