The Pendulum Swings – Bank Regulation Starts to Reverse

Last week, on the ten-year anniversary of the collapse of Bear Stearns, the U.S. Senate passed a bank deregulation bill by a large bi-partisan majority of 67-31. What a difference a decade makes!  While this bill and its timing make good headlines, in reality it just tweaks the existing laws. The bill is important not because of its substance, but because it shows that the pendulum of bank regulation has begun to swing toward center.  

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The tweaks include a number of reasonable provisions. First, the bill allows for some banks with assets of up to $250 billion to be released from the Fed’s strictest regulatory regime, and it gives regulators the option to loosen certain capital requirements for even larger institutions. This change does not impact U.S. financial stability, as the vast majority of the assets in the banking system are held by banks with more than $250 billion, and good oversight is still in place for smaller banks. For tiny banks with less than $10 billion, the bill would loosen mortgage underwriting standards and exempt such institutions from the Volcker rule, which bans lenders from placing market bets with their own money. While this may make some weaker community banks riskier, the risk is balanced against the high cost of regulatory compliance, which discourages small banks from offering needed services in their communities.

This bill does not touch the core of bank regulation. In our opinion, it enshrines tough regulations like stress testing, higher capital and liquidity requirements, and the Volcker Rule for all major banks. We trust the house bill will offer similar tweaks and not wholesale changes to these important regulations before it is signed into law. 

Pendulums only swing in one direction for so long; after ten years it is to be expected that the regulatory pendulum will begin to swing back. Still, it could be decades before we forget the lessons learned and again revert to overly loose banking regulation. It took Congress 66 years to repeal the Glass-Steagall act, which kept commercial banks out of riskier investment banking. We expect Dodd Frank will last as long. 

Swing slowly!

Sources: Bloomberg, the Wall Street Journal, the New York Times, the Financial Time