Monday, February 13, 2017

Trump’s Executive Order on Finance Might Just Work Out Best

By Roy C. Smith

Mr. Trump’s executive order on Dodd Frank and financial regulation announced on Feb. 3 doesn’t seem like much of a shake up – all it did really was ask for a study -  but it may turn out to be the easiest way to address his tough anti-bank campaign promises, yet still ease the way for the financial industry to finance growth.

As a candidate Mr. Trump pledged to “dismantle” Dodd Frank and “break up the banks. “ The Republican Party platform on which he was elected also called for reinstituting Glass Steagall, the 1933 law that separated banking from securities activities until it was repealed in 1999.  Since the election, attention also has been drawn to Congressman Jeb Hensarling’s proposed Financial CHOICE Act that would enable large banks to opt out of Dodd Frank under certain circumstances.  And, during his confirmation hearings Treasury Secretary nominee Steve Mnunchin said the government might adopt a “ringfencing” plan similar to the one the UK approved to minimize systemic risk.

It now looks like none of these are likely to happen, but instead a new Trumpian solution will emerge that will fix the problems posed by the both “reckless banks” and the “disastrous” legislation enacted by the Obama Administration.

Critics of the 2010 Dodd Frank Wall Street Reform Act agree that it is too big, cumbersome and costly and it has negatively impacted economic growth by limiting corporate access to credit. Its supporters claim it is a necessary effort to prevent future bailouts of banks and to reduce systemic risk and misconduct in financial services.

The structure of the Dodd Frank law is to require each of nine financial regulatory agencies (headed by presidential appointees) to adopt 390 new “rules” that implement the various provisions of the statue.  Only about 80% of these new rules have been adopted so far; it takes time to write them, wrestle with lobbyists and industry opinions and finally get them in place. But the teeth of the law are in these rules. Change the teeth and you change the law.

The Trump plan apparently was devised by Gary Cohn, ex Goldman Sachs COO and now Chairman of the National Economic Council. No one knows more about the costs and benefits of Dodd Frank than Cohn who has spent six years supervising its implementation at Goldman Sachs and adapting to its strategic constraints. No doubt Cohn has collaborated with Jay Clayton, a respected securities lawyer at Sullivan & Cromwell, and newly designated head of the SEC.

These men know that there are some good and useful parts to Dodd Frank that strengthen the financial system. They also know that the financial industry has spent in the area of $35 billion setting up systems to comply with Dodd Frank, and they don’t want to see the whole regulatory structure uprooted and replaced with something new that they would have to adjust to all over again. They would rather see existing rules changed to eliminated the unnecessary, ineffective and burdensome parts while preserving the basic framework they have become used to.

The Trump executive order requires the Treasury Secretary (who is chairman of the Dodd Frank created Financial Stability Oversight Council) to report back within 120 days as to which of the existing myriad outstanding financial regulations (not just those from Dodd Frank) support Mr. Trump’s new “Core Principles” for financial regulation, and which do not. These Core Principles include many of the regulatory objectives of Dodd Frank, but, unlike that law, they also require that the regulatory system not impair economic growth or weaken financial markets.  

Some of the offending parts of existing regulations can be fixed by having new appointees change the implementing rules. Other parts may require a legislative amendment to Dodd Frank, which, if technical or only involve obscure details, could be inserted into some other law likely to be passed with the Republican majority. The basic idea, however, is to fix what you can in a timely way, but avoid a big battle in Congress (that could take 60 votes in the Senate that Republicans don’t have) to repeal the old law and to replace it with something new.

Even so, a lot of work will be required in the next 120 days to identify the offending, non-Core parts of all existing financial regulation, and then a lot more work and time will be required to write up the rule changes and get them implemented.  The net result is probably that the smaller banks will be given some well-deserved relief on the applicability of the Dodd Frank to them, and the bigger ones will get relief on rules affecting trading, derivatives, compensation and consumer financial protection, and on some of the burdensome compliance and reporting requirements.

But the banks will still be subject to the tough capital requirements of Basel III, and to the qualitative stress tests applied by the Federal Reserve. The Trump plan will not be a return to the status quo ante 2008, but it should help the industry on the cost side and allow more lending to companies seeking credit.

Indeed, it might just be about right. 

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