Dodd-frank Wall Street Reform And Consumer Protection Act: Purpose, Critique, Implementation Status And Policy Issues

Purpose, Critique, Implementation Status and Policy Issues

Douglas D Evanoff, William F Moeller

• Publisher: WSPC
• Year: 2014
• eBook ISBN: 9789814590051
• Topic: Biological Sciences
• Subtopic: Science General
• Index: Biological Sciences

In this volume, what are thought to be some of the more important aspects of the Dodd–Frank Act are discussed from a number of perspectives, including that of industry scholars who have been actively involved in evaluating financial regulation, regulators who are responsible for implementing the reform, financial policy experts representing think tanks and banking trade associations, congressmen and congressional staff involved with developing the legislation, and legal scholars. The volume summarizes the act, evaluates how the new regulations are being implemented and how the implementation process is progressing, and discusses modifications that, in the views of the authors, might be needed to more effectively achieve the stated goals of the legislation.

Contents:

• Introduction and Summary of the Act:
  • The Dodd–Frank Act: An Overview (Douglas D Evanoff and William F Moeller)
• Critical Assessment of the Act:
  • Regulating Wall Street: The Dodd–Frank Act (Matthew Richardson)
• Financial Stability via Regulation:
  • Financial Stability Regulation (Daniel K Tarullo)
  • Implementing Dodd-Frank: Identifying and Mitigating Systemic Risk (Mark Van Der Weide)
  • Implementing the Dodd–Frank Act: Progress to Date and Recommendations for the Future (Scott D O'Malia)
  • Dodd–Frank Act Implementation: Well Into It and No Further Ahead (Wayne A Abernathy)
• Financial Stability via Efficient Failure Resolution:
  • We Must Resolve to End Too-Big-To-Fail (Sheila C Bair)
  • The Orderly Liquidation of Lehman Brothers Holdings Inc. Under the Dodd–Frank Act (Federal Deposit Insurance Corporation)
  • Implementing Dodd–Frank: Orderly Resolution (Martin J Gruenberg)
  • Resolving Globally Active, Systemically Important, Financial Institutions (Federal Deposit Insurance Corporation and the Bank of England)
• An Alternative View: Financial Stability via Bank Breakups:
  • Do SIFIs Have a Future? (Thomas M Hoenig)
  • Ending Taxpayer-Funded Bailouts: Dodd–Frank Promises More Than It Can Deliver (Richard W Fisher and Harvey Rosenblum)
  • Solving the Too-Big-To-Fail Problem (William C Dudley)
• Consumer Protection:
  • Partnering: The Consumer Financial Protection Bureau and State Attorneys General (Richard Cordray)
  • Prepared Remarks Before the National Association of Attorneys General (Richard Cordray)
  • The Consumer Financial Protection Bureau: The Solution or the Problem? (Brenden D Soucy)
• Was Dodd–Frank Necessary? Needed?:
  • The Financial Crisis and “Too-Big-To-Fail” (Barney Frank and the Minority Staff of the House Financial Services Committee)
  • A Dissent From the Majority Report of the Financial Crisis Inquiry Commission (Peter J Wallison)

Readership: Financial economists, as reading material for beginner to intermediate courses in Finance and Economics for undergraduates and MBA students, general public, and policy makers interested in the Dodd-Frank Wall Street Reform and Consumer Protection Act (2010).

PART I

Introduction and Summary of The Act

Part I of this volume serves to provide an overview of the major elements of financial regulatory reform introduced in Dodd–Frank. This overview is provided in an article by Douglas Evanoff and William Moeller, both from the Federal Reserve Bank of Chicago. Instead of taking a title by title approach, Evanoff and Moeller introduce and summarize what are thought to be the major components of the act, highlight what problems are being addressed and provide insight on the economic reasoning behind the regulatory changes. The major regulatory changes include efforts to improve financial stability via macroprudential regulation, greater supervisory coordination, new failure resolution procedures, limits to proprietary trading by insured depository institutions, new requirements for over-the-counter (OTC) derivative markets (particularly clearing and settlement requirements), and new consumer protections. The goal for this part is to take a ‘positive’ approach and discuss the new regulations resulting from the act, rather than providing a comprehensive appraisal of them. That appraisal comes in the forthcoming chapters; most formally in Chapter 2.

Chapter 1

The Dodd–Frank Act: An Overview

Douglas D. Evanoff and William F. Moeller¹

As financial regulation evolved over the past 80 years, it became common to introduce new legislation with the claim that “this is the most significant regulatory reform since the Great Depression and the Banking Act of 1933.” On July 21, 2010, following the 2008–2009 financial crisis, President Barack Obama signed into law the Dodd–Frank Wall Street Reform and Consumer Protection Act (hereafter Dodd–Frank). In the view of many in the industry, Dodd–Frank became the new standard against which all future reforms should be compared.² The stated goals of the act were to provide financial regulatory reform, to protect consumers and investors, to put an end to the too-big-to-fail (TBTF) problem, to regulate the over-the-counter (OTC) derivatives markets, and to prevent future financial crises. The act has far-reaching implications for industry stability and how financial services firms will conduct business in the future.

The implementation of Dodd–Frank requires the development of some 398 new regulatory rules and various mandated studies.³ There is also the need to introduce and staff a number of new entities (bureaus, offices, and councils) with responsibilities to study, evaluate, and promote consumer protection and financial stability. Additionally, there is a mandate for the regulators to identify and increase regulatory scrutiny of systemically important financial institutions (SIFIs). As a result, macroprudential regulation (aimed at mitigating risk to the financial system as a whole) will play a much more important role than it has in the past (see Bernanke, 2011). More than three years into the implementation of the act, much has been done, but much remains to be done.⁴

Dodd–Frank continues to be debated in the political, business, and public arenas. Were the right lessons learned from the recent crisis? Were the appropriate reforms introduced in the new regulations?⁵ Did the act go far enough — or too far? Were regulators given too much discretion in implementing the act? How burdensome are the new regulations and how will the intermediation process be affected? Will financial innovation be affected? Might regulatory reform induce some current financial activities to shift toward the less-regulated shadow financial sector?⁶ Are banks finding ways to effectively avoid or cushion the impact of the new rules? These issues will be touched on in this chapter and will be critiqued more fully in later chapters of this volume.

In this overview chapter, we summarize the major components of Dodd–Frank. We also discuss the economic rationale behind many of the reforms. It should be emphasized, however, that this is not an attempt to cover every aspect of the act — as with any legislation, there were certain issues amended to the act late in the drafting process that are well outside the realm of financial regulation.⁷ Rather, we summarize what we consider the major components of the act: namely, financial stability via macroprudential regulation, supervisory coordination, new failure resolution procedures, limits to proprietary trading by insured depository institutions, new requirements for OTC derivatives markets (particularly clearing and settlement requirements), and new consumer protection oversight. We also outline the purpose of the reforms and the tools available to regulators to achieve the desired outcomes.

Background

While there have been a number of modifications to the U.S. financial regulatory environment over the past 80 years, the reform in Dodd–Frank is different. It takes a much more aggressive and comprehensive approach than did past reforms, with an emphasis on consumer protection and financial market stability via enhanced prudential regulation. Many recent proposals were mostly concerned with restructuring the regulatory agencies than altering prudential regulation and allowable financial activities. For example, the U.S. Department of the Treasury (2008) proposed the phase out of the thrift charter, the transition of thrifts toward a bank charter, and the elimination of the Office of Thrift Supervision (OTS).⁸ It also recommended a federal regulator for insurance companies. However, there were few proposed changes to product powers or prudential regulation as in Dodd–Frank.

Dodd–Frank also differs from reforms put in place in recent years in that it reverses the deregulatory trend that started in the early 1980s. For example, bank and bank holding company (BHC) product powers had been expanded with the 1980 Monetary Control Act, the 1982 Garn–St. Germain Act, and the 1999 Gramm–Leach–Bliley Act. The 1980 and 1982 acts also eased deposit pricing restrictions on the industry. Limitations to geographic expansion were lifted with the 1994 Interstate Banking and Branching Efficiency Act (the Riegle–Neal Act) and numerous state laws aimed at increasing banks’ ability to operate across state borders. Dodd–Frank reverses this trend and reimposes some of the restrictions that were lifted during this period — see the Volcker Rule discussion.

Another way in which Dodd–Frank differs from other recent regulatory reforms is in the flexibility it gives regulators. This approach contrasts significantly with that of the Federal Deposit Insurance Corporation (FDIC) Improvement Act of 1991, for example. The 1991 act was passed in the aftermath of the savings and loan crisis when Congress was frustrated with bank regulators over the large number of bank failures and the resulting large losses to the bank insurance fund — for details, see Kane (1989a,b), Benston and Kaufman (1994), and Young (1993). By contrast, many aspects of Dodd–Frank lack specificity as to how they are to be implemented, giving the regulators significant discretionary authority to develop and implement rules — for details, see Casey (2011) and Van Der Weide (2012). However, while giving regulators discretion in the act’s implementation, in many cases Dodd–Frank explicitly imposed deadlines by which reforms needed to be in place or studies needed to be completed. This placed significant pressure on regulators to meet rulemaking deadlines and implement the reforms while considering the potential regulatory burden that might be imposed on the industry; a burden that the industry argues may adversely impact its effectiveness in carrying out its basic role in financial and economic markets. With that description of the rather trying regulatory environment created by Dodd–Frank (for both the regulators and regulatees), we next turn to the major issues addressed in the act.

Financial stability

Perhaps the most important objective of Dodd–Frank is to ensure a safe and stable financial system.⁹ Toward that goal, the act shifts from exclusively concentrating on microprudential regulation, which focuses on risk at individual institutions, to include macroprudential regulation, which focuses on overall market stability and systemic risk. During the financial crisis, it became obvious that the assumption that the financial system as a whole could be kept safe by regulating individual institutions was unsound. A purely microprudential approach ignores interconnections and externalities, whereby the actions of a single financial institution can induce spillover effects that adversely affect general market conditions, other financial institutions, and ultimately the economy as a whole. In contrast, macroprudential regulatory approaches attempt to manage overall financial system risk.¹⁰ Ideally, macroprudential tools can be used to induce financial institutions to internalize the costs of their actions on society, including externalities where costs are generated and shifted to others.¹¹ With the increased reliance on macroprudential regulation, there was also a realization that regulators need to anticipate forthcoming industry problems.

These challenges were addressed in Title I of Dodd–Frank, which created the Financial Stability Oversight Council (FSOC) and the Office of Financial Research (OFR), which is housed in the U.S. Treasury Department and serves to support the FSOC. FSOC is structured as a consultative group of financial regulators. Its role is to identify risks that pose a threat to the stability of financial system, promote market discipline, and respond to emerging threats. To accomplish this, FSOC has the authority to make recommendations about appropriate macroprudential regulation, to collect information about market activities, and, perhaps most importantly, to designate systemically important institutions or activities that will come under the oversight of the Federal Reserve, which is empowered as the new systemic risk regulator.¹² The consultative format of FSOC allows the individual agencies not only to continue to handle the substantive supervision of their industry-specific institutions but also to share insights and keep the other agencies aware of the developments across the financial industry. By design, this consultative format avoids the creation of another regulatory bureaucracy, but brings the key regulatory agencies together in a formal way to contribute to public policy.

FSOC consists of 10 voting members and 5 nonvoting members, combining the expertise of the federal and state regulators and an insurance expert appointed by the President.

The voting members are as follows:

•Secretary of the Treasury, who serves as the chairman of the Council,

•Secretary of the Treasury, who serves as the chairman of the Council,

•Chairman of the Board of Governors of the Federal Reserve System,

•Comptroller, Office of the Comptroller of the Currency,

•Director of the Consumer Financial Protection Bureau (CFPB),

•Chairman of the Securities and Exchange Commission (SEC),

•Chairman of the FDIC,

•Chairman of the Commodity Futures Trading Commission (CFTC),

•Director of the Federal Housing Finance Agency,

•Chairman of the National Credit Union Administration Board, and

•An independent member with insurance expertise, appointed by the President and confirmed by the Senate for a 6-year term.

The nonvoting members, who serve in an advisory capacity, are as follows:

•Director of the OFR,

•Director of the Federal Insurance Office,

•A state insurance commissioner designated by the state insurance commissioners,

•A state banking supervisor designated by the state banking supervisors, and

•A state securities commissioner (or officer) designated by the state securities commissioners.

FSOC’s success will hinge on its ability to maintain a comprehensive view of the workings of the financial system. Given the vast, complex, and changing nature of the system, this is a monumental task. FSOC has the authority to request information from a number of sources, including the member agencies, financial institutions (if the information is not readily available from primary regulators), and the new OFR. The breadth and quality of this information will be critical in helping FSOC to meet its objective of anticipating threats to financial ...

Table of contents

• Cover Page
• Title Page
• Copyright Page
• Dedication
• Contents
• Preface
• PART I Introduction and Summary of The Act
• PART II Critical Assessment of the Act
• PART III Financial Stability via Regulation
• PART IV Financial Stability via Efficient Failure Resolution
• PART V An Alternative View: Financial Stability via Bank Breakups
• PART VI Consumer Protection
• PART VII Was Dodd–Frank Necessary? Needed?
• Index