Another rule is now on the books with Dodd-Frank. In the news this morning was more information about the “Volcker Rule”, which is a specific regulatory rule of the Dodd-Frank Wall Street Reform Act. (Two-thirds of the regulations in Dodd-Frank are not fully drafted yet.)
The Volcker Rule was not originally included in the Obama administration’s initial June 2009 proposal. Obama proposed the rule later in January 2010 after the original House Bill for Dodd Frank passed.
It is named after United States Federal Reserve Chairman Paul Volcker, and it is in its essence used to restrict United States banks from making certain kinds of speculative investments. In laymen’s terms it was proposed to put a ban on big banks making risky bets for their own benefit.
The bill was proposed by regulators that wanted to prohibit banks trying to make short-term trades with depositor’s money, or using depositor’s money to invest in private-equity deals. The goal was to protect the federal deposit insurance fund by forcing banks to spin off trading operations. They are hoping that the rules means banks take less risk, operate with less leverage and have more consistent financial results in the future.
The Federal Reserve, the Federal Deposit Insurance Corporation, the Securities and Exchange Commission, the Commodity Futures Trading Commission and the Office of the Comptroller of the Currency approved the rule Tuesday, December 10, 2013. The larger banks will have until July 2015 to comply with the new regulation, other banks would have until 2016.
So what is the rule?
The rule prohibits depository banks from proprietary trading. In other words banks can no longer invest in (buy or sell) investments for their own gain. The rule also bans U.S. banks from some investments that foreign banks can make outside of the United States. According to CitiBank and Bank of America, that part of their business is so small it will be immaterial.
Most banks had already gotten rid of most of their proprietary trading businesses in anticipation of the rule, so the final version should have little or no effect on bank profits.
The new rule also requires the CEOs of large banks to annually attest that their institutions have risk controls in place to enforce compliance with the new standards. Yet it does not make them swear that their banks do not have or own any prohibited investments. Hence they are making the CEOs accountable if something goes wrong, which is where that accountability already was.
The new rule also establishes what legitimate trades banks can make and which they cannot.
Some of the rule’s critics are afraid the rule will over-regulate and clamp down on market-making that they say stimulates the economy. The banking industry lobbied regulators intensely for the past three years to try to whittle down the list of what’s not allowed.
While other critics don’t think the rule goes far enough to crack down on the banks. They fear they (the banks) have already exploited its loopholes and ambiguities.
So it is now up to the five regulatory agencies charged with implementing and enforcing the new rule to decide which trades are proprietary and which are not.
- Volcker Picture from: http://en.wikipedia.org/wiki/Volcker_Rule
- Focus of Volcker Rule Diagram: http://www.motherjones.com/kevin-drum/2010/02/chart-day-volcker-rule