Dodd-Frank Regulatory Burden and the Future of Banking

Last week President Barack Obama said during an interview on the Marketplace radio program that further reforms of Wall Street are needed. He suggested that the big banks are making too much profit from their trading desk operations, as opposed to investing in companies and the real economy. He went on to claim that the Dodd-Frank Act was put in place only to protect consumers and taxpayers against another financial crisis. He said, “Right now, if you are in one of the big banks, the profit center is the trading desk, and you can generate a huge amount of bonuses by making some big bets; you will be rewarded on the upside. If you make a really bad bet, a lot of times you’ve already banked all your bonuses. You might end up leaving the shop, but in the meantime everybody else is left holding the bag. Now what we’ve been able to do is to try to prevent taxpayers from being the folks who are left holding the bag. But it’s still not a real efficient way for us to run a financial system. That’s going to require some further reforms. That’s going to require us looking at additional steps that we can take.”

The president added that the Dodd-Frank Act was intended “to prevent another catastrophic financial crisis. It wasn’t expected that it was going to solve all the problems. What I’ve said to my economic team is that we have to continue to see how can we rebalance the economy sensibly so that we have a banking system that is doing what it is supposed to be doing to grow the real economy, but not a situation in which we continue to see a lot of these banks take big risks because the profit incentive and the bonus incentive is there for them. That is an unfinished piece of business, but that doesn’t detract from the important stabilization functions that Dodd-Frank were designed to address.” He further stated that there’s more work to be done in reforming the banking industry, including the possibility of restructuring the banks themselves.

While President Obama did not offer any specific suggestions for what should be done – and the likelihood of getting any additional banking regulation through a Republican-controlled House of Representatives is near zero – it is deeply disturbing that our chief guardian of the economy is once again waging a verbal war against the banking industry. The reason that banks are not making profits in the real banking economy is that the regulatory burden resulting from the Dodd-Frank Act has increased expenses and diminished income. He rants against big banks yet, since his program has been adopted, the four largest U.S. banks have increased their percentage of control of total bank assets immensely. Meanwhile the policies adopted in Dodd-Frank have forced many banks to sell. Obama insists that large banks need to be reined in. However, make no mistake – the large banks have been pummeled with unnecessary regulatory burden, despite their rapid growth.

If the president truly wants banks to do the real business of banking, he needs to unshackle banks of all sizes from the choking regulatory burden that has been unleashed upon them during his term. While historically banks have weighed credit decisions from the perspective of whether they are bankable, they now view credit decisions through the lens of “what will the regulators say?” if a loan is approved or declined. In other words, traditionally bankers evaluated credit risk; today, they evaluate regulatory risk. That shift is the direct result of Dodd-Frank. Heaven help us if there is going to be a second round of regulations. If the next bout approaches the scope of Dodd-Frank, it will be the death blow of the banking business as we know it.

– S. Joe DeHaven

 

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