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A vote for Trump could shatter Obama’s regulatory legacy

With the upcoming presidential election on 8 November 2016 and Trump’s growing popularity in the polls over the past few months, it is becoming increasingly important for regulators, banks and other financial institutions to gain a greater understanding of his economic agenda.  Well before he launched his current campaign, Trump attacked increased regulation following the 2007-2009 financial crisis, which he said prevented loans to all but the very wealthy.  While Mr. Trump is yet to release a finalised version of his economic plan, he has stated that the sweeping financial reforms put in place under President Barack Obama were harming the economy and that he would dismantle nearly all of them.  Of course, he is referring to the Dodd-Frank Wall Street Reform and Consumer Protection Act, the premier piece of legislation regulating the financial sector since the crisis.

Dodd-Frank in-depth

The Dodd-Frank Act represents the most comprehensive financial regulatory reform measures taken in the United States since the Great Depression.  It forced US banks to reduce their reliance on debt for funding and to craft ‘living wills’, or blueprints, for winding themselves down in a crisis.  The law created a new agency, the Consumer Financial Protection Bureau, to oversee consumer financial products, such as mortgages, and gave regulators new powers over large non-bank financial companies.  More specifically, the Dodd-Frank Act implements changes that, among other things …

1. affect the oversight and supervision of financial institutions
2. provided for a new resolution procedure for large financial companies
3. created a new agency responsible for implementing and enforcing compliance with consumer financial laws
4. introduced more stringent regulatory capital requirements
5. effect significant changes in the regulation of over the counter derivatives
6. reform the regulation of credit rating agencies
7. implement changes to corporate governance and executive compensation practices
8. incorporate the Volcker Rule, which restricts banks from making speculative investments
9. require registration of advisers to certain private funds
10. effect significant changes in the securitisation market.

Republicans in Congress have pushed to ease the requirements on small and medium-sized banks and to make it more difficult for regulators to introduce new rules.  They have also argued for getting rid of the consumer financial protection agency.  Banks and other financial firms have spent six years and millions of dollars adjusting their operations to comply with the law, and bank lobbyists have generally pushed for changes to make complying easier, rather than a wholesale rewrite.

Trump on Dodd-Frank

Mr. Trump has gone on the record again and again saying that the law is bad news for the economy and the banking industry.  He’s called it a “disaster and a very negative force,” claiming the law was “making it very tough for companies to do business, especially with respect to lending to businesses.” Pressed on the extent of the changes he wanted to make, Trump said, “it will be close to the dismantling of Dodd-Frank.” He declined to offer specifics on his economic plan, but said it would address whether institutions should separate commercial banking activities from investment banking.  He admits that, even under the new plan, the banking system would not be perfect, but argues there are bad loans made now with Dodd-Frank.  He also said he expects bankers to appreciate his position.  “I think things have to be done with (Dodd-Frank), and I think Wall Street would like to hear that,” Trump told Fox Business host, Maria Bartiromo.

Is regulation holding back the banks, or the economy, as much as Trump thinks?

Bank lending rose by nearly $100 billion in the first three months of this year – the biggest increase in a first quarter since the financial crisis.  It was nearly double the $52 billion increase in the first quarter a year ago.  What’s more, in the past year, lending by US banks had grown by just over $575 billion.  This jump is a good sign and, if the Federal Reserve is paying attention, it might represent another signal that the US economy is healthy and that Janet Yellen and co. at the federal reserve may be closer to raising interest rates again.  The news also indicates that the GOP frontrunner’s recent comments about bank regulation may be off.  In fact, since Dodd-Frank was passed, lending has increased by roughly $1.6 trillion.

Yet, a great deal of uncertainty surrounding the effectiveness of the law still exists.  This is because the US economy has recovered since the financial crisis, and because it is impossible to gauge to what extent lending would have increased without Dodd-Frank.  Indeed, the amount of cash that banks hold collectively is up nearly $700 billion in the same period.  At least some of the jump is attributable to the fact that Dodd-Frank was passed after lending had dropped considerably.  But even factoring in that plunge, there are now $800 billion more in bank loans outstanding than there were before the financial crisis, when everyone seems to agree there was less financial regulation.  Recently, business lending – the kind that Trump says Dodd-Frank has hurt the most – has increased rapidly.  Lending to commercial and industrial companies, often referred to as C&I lending, jumped $71 billion in the first quarter and is up 60% since Congress passed Dodd-Frank.  In the first quarter, C&I lending eclipsed residential mortgage lending for the first time since the 1980s.

So what?

While we don’t know exactly what Trump’s plan looks like, he certainly wants to scrap a great deal of the Dodd-Frank legislation.  It might not be right to say ‘all’ of those regulations, but he has been unclear on that point himself.  The only bit of wiggle room here is that Trump has been inconsistent about how much of Dodd-Frank would be left when he had finished with it.  He has said he would repeal it – however, he has also said that there are some aspects he may leave, and some that could be changed greatly rather than being eliminated.  With so much of his economic plan still up in the air, regulators, banks and other entities within the financial sector should begin wondering if a vote for Trump would leave the American financial sector in a state of chaos and uncertainty, similar to that of the UK following the Brexit vote.  The ‘leave’ vote, which led the pound to plummet to its lowest level against the US dollar in over 30 years, has already caused significant losses on the stock exchange and a near immediate decline in investment spending.  While the long-term effects of the referendum are largely uncertain, the UK is likely to see some drop in GDP and foreign trade over the next few years.  Still, as the world’s fifth largest economy, this insecurity should subside fairly quickly once the government announces its negotiating platform, which will probably be to push for access to the single market, possibly by joining the European Economic Area.  Voters in the UK did more than reject the European Union, they set off a chain of events that could spark global economic chaos and reverberate through the US presidential election in November.