U.S. Financial Reform Law Still Not Fully Implemented

Anton Woronczuk of The Real News Network interviews regular Triple Crisis contributor Gerald Epstein, co-director of the Political Economy Research Institute (PERI) and professor of economics at the University of Massachusetts. Epstein argues that, on the fourth anniversary of the passage of the Dodd-Frank financial reform law, which was intended to rein in certain kinds of risky financial practices, implementation is going “much more slowly than one would have hoped.” The United States will need both a more complete implementation of Dodd-Frank and more far reaching regulation, Epstein concludes, to prevent the kinds of financial risk-taking that detonated the global economic crisis.

ANTON WORONCZUK, TRNN PRODUCER: Welcome to The Real News Network. I’m Anton Woronczuk in Baltimore. And welcome to another edition of The Epstein Report.

Now joining us is Gerald Epstein. He’s the codirector of the Political Economy Research Institute and professor of economics at the University of Massachusetts Amherst.

Thanks for joining us, Jerry.

GERALD EPSTEIN, CODIRECTOR, PERI: Thanks a lot for having me.

WORONCZUK: So it’s been four years since the implementation of the Dodd-Frank Wall Street Reform and Consumer Protection Act of 2010. Let’s get a brief summary from you of what the legislation does and how you think it has shaped financial regulation on Wall Street.

EPSTEIN: Yeah. So it’s the fourth anniversary of the passage of it. The implementation of the law is still ongoing and is ongoing much more slowly than one would have hoped, as I’ll explain in a minute.

The Dodd-Frank law is this financial regulation law that, in theory, at least, was designed to prevent another major financial crisis from happening, which has devastated so many lives in our country and around the world, and to make it such that if there is another financial crisis, that the government would not have to bail out these large financial institutions to the tune of many, many billions of dollars. So it was both to make the likelihood of a financial crisis much less and to make the cost of one if it happens much lower for the taxpayer and for the citizens.

The Dodd-Frank financial act, named after Senator Dodd and Barney Frank, the senator and the congressman who were the major people responsible for helping to write it, was designed to reduce risks along a number of fronts that were responsible for the financial crisis. First of all, there were large swaths of financial activities that were very dangerous, very risky, that were not regulated at all. So, for example, derivatives were a very important part of the financial crisis. So for the first time the Dodd-Frank Act tried to bring derivatives under regulation. Second of all was the massive leverage, the debt that the banks had got into in order to finance risky behavior. So the Dodd-Frank act allowed the Federal Reserve to reduce the degree of leverage in the system. Another thing was that the banks were using their own funds to engage an extremely risky behavior, so-called proprietary trading. So the Dodd-Frank act, the so-called Volcker rule, was designed to eliminate that kind of trading.

There were other institutions that didn’t do their job, like the credit rating agencies, that passed off total junk securities as AAA-rated securities because they had conflicts of interest. They were being paid by the banks that wanted these good ratings and they delivered the ratings for a hefty sum. So they were supposed to be regulated within Dodd-Frank.

There were other kinds of important institutions, particularly the Consumer Financial Protection Bureau, that was designed to help regulate banks so that they don’t defraud borrowers and small businesses and households and consumers. And that was pushed by Elizabeth Warren, who’s now a senator from Massachusetts, and that was passed. So there are a lot of important pieces of legislation that was part of the Dodd-Frank that was passed in 2010, and if properly implemented, probably could have gone some distance towards reducing the chances of a financial crisis. Unfortunately, I have to say, looking back four years, that hasn’t been the way it’s really turned out.

WORONCZUK: Talk about the fight that remains regarding the Dodd-Frank’s full implementation.

EPSTEIN: Well, the Dodd Frank Act was designed to be implemented over a series of years, and much of it was left unwritten. So there was kind of broad guidelines of the law, and the bank lobbyists wanted it this way so that they could fight over every piece of implementation along the way with respect to all the different regulatory agencies–Securities and Exchange Commission, the CFTC, the consumer financial bureau, etc. At every different forum, they could fight to try to restrict the effectiveness of these bills, these laws, and they have invested millions and millions of dollars over the last four years to poke holes in the Dodd-Frank law, to delay the implementation, to try to gut the implementation. And, unfortunately for the citizens of the United States and the rest of the world, they’ve had a lot of success.

So what fights are left? There’s a fight over the implementation of the Volcker rule, which was designed to stop proprietary trading. The regulators finally passed in implementation bill, but it still has lots of holes in it that the banks are trying to widen. They’ve been trying to rein in the regulation of derivatives by excluding various kinds of products from regulation. They’ve completely delayed and derailed the attempt to regulate the credit rating agencies. And they’re trying to hamper all of the regulatory agencies, like the SEC, the CFTC, by trying to cut their budgets, trying to force them to engage in new analyses, so-called cost-benefit studies, which are very costly, as if we don’t already know that the financial crises had huge costs. And the implementation of this law has relatively small costs, so we already know that the benefits from proper regulation far outweigh the cost. But they’ve been able to convince members of Congress on the Republican and the Democratic side to force these very costly delaying tactics like cost-benefit analyses of this legislation.

So, in terms of the fights left, what is to prevent the full passage of these rules for cost-benefit analysis, which is just a delaying tactic? The fight over extending the derivatives regulation, which was supposed to cover many, many kinds of derivatives and now has been shrunk down, the fight over liquidity and leverage regulation, and the funding of these regulatory institutions–the SEC, the Consumer Financial Protection Bureau, etc.–all these fights remained. And, unfortunately, given the political scene, the advocates for strong legislation, such as the Americans for Financial Reform, Better Markets, and other advocates are losing the battle.

WORONCZUK: Okay. And, finally, do you think that a full implementation of the Dodd-Frank Act would deal with the root causes of the Great Recession?

EPSTEIN: No, probably not entirely, partly because they really–the Dodd-Frank act, first of all, did not limit the size of these institutions. There had been bills put forward as part of the Dodd-Frank Act to limit the size of financial institutions, even break up financial institutions, so that they couldn’t be too big to fail. Those didn’t get implemented. Now there are legislators who are trying to get these kinds of bills passed. Sherrod Brown, Jeff Merkley, Elizabeth Warren with the new Glass-Steagall act and so forth, but these are not getting much traction. So those kinds of laws to actually limit the size of the financial institutions, I think, is really one thing that was not part of Dodd-Frank and we still need.

A second is that we have to change compensation incentives; that is, almost nothing was done to limit the bonuses and the incentives that bankers get for taking excessively risky kinds of activities. And unless you reduce the profitability of these kinds of actions for banks, they’ll always figure out ways to go around legislation and to make the financial system less safe. So those are two areas.
And a third area is there has to be regulation of the so-called shadow banking system, that is, all the financial activity that’s taking place outside of banks, because as more regulation is put on banks, there’s more activity that goes outside the banks in private equity firms, in hedge funds, in other kinds of non-bank financial institutions. So we really have to have a comprehensive financial regulatory structure that regulates all of the financial activity and not just the banks.

So those are the three examples of things that the Dodd-Frank Act did not include that would need to be included if we’re going to really get this beast under control.

WORONCZUK: Okay. Gerald Epstein of PERI.

Thanks for joining us.

EPSTEIN: Thank you.

WORONCZUK: And thank you for joining us on The Real News Network.

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