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Banking Reform: Reducing Regulation, Sparking Growth

ICYMI: The Art of a Banking Deal
Congress eases the Dodd-Frank pain on non-giant banks.




May 23, 2018

Headlines portray Congress as a swamp of dysfunction, but the House on Tuesday showed that the parties and chambers can work together by passing a bipartisan Senate banking reform, 258-159. Notwithstanding its shortcomings, the bill is an important step away from excessive government controls.

The Dodd-Frank Act turned banks into tightly-regulated utilities. Even some Democratic Senators who voted for the 2010 law—here’s looking at you, Claire McCaskill of Missouri—have experienced regrets as many small banks have closed branches and restricted lending due to a regulatory crush. Between 2012 and 2017, Capital One cut 32% of its branches while SunTrust slashed 22%, including about half of its locations in rural areas. Since 2009, 137 community banks in California have closed.

Meantime, big banks have grown bigger. The three largest— J.P. Morgan , Wells Fargo and Bank of America —hold 32% of deposits, up from 20% in 2007. About 45% of new checking accounts last year were opened at one of the big three. Keep this in mind when you hear Democratic cries that Republicans are “rolling back” regulation to aid the biggest banks. Dodd-Frank was the real gift to the banking giants, which as always have more resources to cope with more regulation.Senate Banking Chairman Mike Crapo’s bill relaxes some of the most onerous regulations for community banks and liberates regional institutions from too-big-to-fail rules. Most significantly, the bill raises the asset threshold for banks subject to “enhanced prudential standards” to $250 billion from $50 billion.

These stress-testing and liquidity rules were intended to prevent big bank failures and contagion, but they have hampered growth among their smaller competitors and driven more business to the “shadow” banking system. The bill would also simplify a maze of administrative mandates under Dodd-Frank and other laws. This should help smaller banks focus on serving customers rather than regulators.

We would have preferred House Financial Services Chairman Jeb Hensarling’s Choice Act, which exempted banks from Dodd-Frank’s most onerous rules if they maintain a simple 10% leverage ratio. This seems to be the cleanest, least politicized way to balance the economy’s need for credit with taxpayer safety.

The giants say they are overcapitalized, and it’s true that their balance sheets are far stronger than before the 2008 panic. But as long as they benefit from insured deposits, and the likelihood of a federal rescue in a crisis, very high capital standards are better taxpayer protection than regulation that inevitably fails to predict the next panic.

It’s disconcerting that the Senate bill erodes capital standards by exempting central bank deposits for custody banks. This carve-out would mainly benefit the constituents of Democratic Senators Elizabeth Warren, Chuck Schumer and Dick Durbin —i.e., State Street, Bank of New York Mellon and Northern Trust. But other banks like J.P. Morgan and Citibank offer custodial services, and it’s a matter of time (and fairness) before they get the same dispensation. Meanwhile, the Federal Reserve is proposing to reduce the leverage ratio for the giants.

The bill also reclassifies investment-grade municipal bonds as “high quality liquid assets” though they’re not. Muni debt isn’t actively traded, though its tax exemption makes it attractive for big banks to hold and reduces borrowing costs for state and local governments. Treating munis as liquid assets would expand demand for this debt. Do cities like New York need another spending subsidy?


The Senate bill incorporates about three dozen provisions that originated in the House. Mr. Hensarling wanted to add dozens more that have large bipartisan support. But Senate Republicans worried that Democrats who have been getting beat up by the left would flee if they had to vote on an amended bill.

Democrats should be able to take a few knocks from Ms. Warren in return for getting a big political dividend at home. At least Majority Leader Mitch McConnell has agreed to hold a vote later this year on another package of House financial reforms. Thirty-three Democrats in the House and 16 in the Senate voted for the bank reform, which shows how onerous the Dodd-Frank regime is.

This is one more assist to economic growth that never would have happened if Hillary Clinton were President.

Appeared in the May 24, 2018, print edition.



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