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As the Trump administration prepares to take office in January, many are questioning how it might alter the regulatory regime of the U.S. financial services industry. Among the proposals are tweaks to the 2010 Dodd-Frank Wall Street Reform and Consumer Protection Act, which was a response to the 2007-2008 financial crisis. Dodd-Frank and the agencies set up under it aimed to make banks stronger, to help them identify risks and respond to them sooner, and to protect consumers.
Steven Mnuchin, Trump’s choice for treasury secretary, told CNBC last week that Dodd-Frank “is way too complicated, and it cuts back lending.” He said his “number-one priority on the regulatory side” would be to strip back parts of Dodd-Frank that prevent lending.
However, the overall thrust of the changes sought by Trump and Republicans in Congress moves in the opposite direction of making banks stronger and consumers safer, according to Wharton professor of legal studies and business ethics David Zaring and University of Michigan Law School professor Michael Barr. Barr was also formerly assistant secretary for financial institutions at the treasury department and one of the key architects of Dodd-Frank.
Zaring and Barr acknowledged that as banks have complained of being handcuffed by some Dodd-Frank provisions, room exists for improvements. But they emphasized that any reforms should, above all, aim to prevent a recurrence of the last financial crisis. They discussed the future of the Dodd-Frank Act on the Knowledge@Wharton show on Wharton Business Radio on SiriusXM channel 111. (Listen to the podcast at the top of this page.)
Here are key takeaways from their discussion:
Dodd-Frank Is Delivering: According to Barr, the Dodd-Frank legislation has done “a good job in making the financial system safer and fairer since the financial crisis.” He said the financial system now has more capital, the larger financial institutions are better regulated and there is more attention to the shadow banking system. The “new and strong” Consumer Financial Protection Bureau (CFPB) has been policing the market, which was demonstrated in its response to the recent Wells Fargo Bank scandal, he added. “The last thing we need is to roll back that progress.”
Barr acknowledged that said consumers “are right to be outraged” that scandals like the one involving Wells Fargo continued despite the reforms undertaken after the 2007 financial crisis. “What Wells Fargo did in taking advantage of their customers was deeply deceptive, deeply wrong and deeply harmful, and it undermines trust in the financial system,” he noted.
Areas for Improvement: Zaring said he would like to see a change in the structure of the Financial Stability Oversight Council (FSOC), which looks out for systemically risky financial institutions. He noted that he wouldn’t want a political appointee like the Treasury secretary to chair that council. He also called for “more divergent and disparate voices in the council,” unlike the current structure which has financial regulators appointed by the President.
According to Barr, adjustments could be made to protect community banks from the risks and costs of additional regulation, and regulators could set out plain-language exceptions when rules don’t apply to community banks.
Greater Risks Loom: Zaring argued that three Republican proposals for tweaks to Dodd-Frank “go in the wrong direction.” One is to revoke a rule that prevents investment banks from trading on their own account. The second is to reduce the ability of the FSOC. The third involves efforts to change the independence of the CFPB.
“[Dodd-Frank] might end up surviving more than we might think.” –David Zaring
Barr noted that the Republican proposals would mean “a wholesale dismantling of really every step taken since the financial crisis to make the financial system safer and fairer.” He added that instead of tweaking the law to strengthen Dodd-Frank, the Republicans might hamstring the agencies created under the act. “That’s just going to make it possible for the next Lehman Brothers and AIG to come up outside the regulatory system and blow up the financial system.”
Dodd-Frank Might Survive: Despite the attacks on Dodd-Frank, Zaring thought it might “end up surviving more than we might think.” For one, he said U.S. banking regulators would want to honor banks’ obligations to meet capital requirements to meet foreign obligations.
Zaring said the so-called “repealers” that want Dodd-Frank dismantled may run into “fissures or trapdoors” such as resistance from community banks, who might complain that the changes benefit big banks at their expense. He also pointed out that not all Republicans in Congress would want to “to be perceived as getting rid of reforms that made banks stronger and the system safer for their customers.”