Shackles are off for US banks as Volcker rule is watered down
It’s Christmas come early for bankers as legislation brought in after the financial crisis to stop risky bets is softened, writes Lucy Burton
Paul Volcker, whose decades-long career in Washington saw him serve under six presidents, once said the only useful innovation from banks in recent history was the automatic teller machine. Everything else, he claimed, was dubious.
“Banks have become much more obsessed with trying to make money by trading between themselves,” the former Federal Reserve chairman told The Daily Telegraph in 2012. “There are whole crews of people sitting in back rooms figuring out complex new products to sell to customers that promise to protect them from losses in the stock market over the next million years but which, of course, never do.”
His campaign to curb risky bets on Wall Street led to a piece of legislation being named after him, the Volcker rule, that effectively banned banks from gambling their own funds to make a profit and was one of the more controversial pieces of legislation brought in after the financial crash. Big banks hated it.
“For every trader, we have to have a lawyer, compliance officer, doctor to see what their testosterone levels are, and a shrink [asking them], ‘what’s your intent?’” complained JP Morgan boss Jamie Dimon in 2012. “No, we’re going to make markets for our clients, give them the best products, services, research and prices. It’s a good thing in spite of what Paul Volcker says.”
Now, after years of lobbying to have the wording of the reforms watered down, US banks have gained a victory
as US financial regulators finally agreed to soften it.
Jelena Mcwilliams, chairman for one of the US watchdogs responsible for implementing the rule, said it had been one of the “most challenging” post-crisis reforms for the industry to implement due to how “extremely difficult” it is to distinguish what qualifies as proprietary trading – when a bank buys and sells on its own account and puts its capital at risk.
“Meanwhile, banks that do relatively little trading are required to go through substantial compliance exercises to ensure that activities that have long been considered traditional banking activities do not run afoul of [the rule],” she added.
The rewrite angered other regulators. Democrat Martin Gruenberg, Mcwilliams’ Obamaappointed predecessor, voted against the changes because he said they would “effectively undo” the ban on proprietary trading and therefore allow systemically important banks to engage in risky bets. The concern is that this could put taxpayers at risk. Many big US banks chalked up huge losses before the crisis because of their gambles – in 2007, Morgan Stanley lost $9bn (£7bn) on a massive bet related to mortgage derivatives, while a year later Merrill Lynch lost nearly $16bn and Deutsche Bank almost $2bn.
“There was a real concern coming out of the financial crisis that banks were engaged in taking risky bets with their own money at the expense of the public,” says Washington-based lawyer Jai Massari. “That was a fair concern, and this was a piece of the overall regulatory puzzle.”
But Massari says the unpopular rule has been costly and confusing, angering bankers further. “The regulation includes the idea of prohibiting or restricting activities that the bank does with a short-term intent. This has been a source of confusion,” she explains. The intent element of the rule has been scrapped.
The win for Wall Street comes years after Donald Trump pledged to carry out a “very major haircut” on the Dodd-frank Act, which spans some
‘For every trader, we have to have a lawyer, compliance officer, doctor … and a shrink asking them, ‘What’s your intent?’’
2,300 pages and 400 rules designed to make the banking industry safer in the wake of the last crisis.
It was signed into law by Barack Obama in 2010 to ensure that a global meltdown like the one seen in 2008 would not happen again, with the unpopular Volcker rule being part of the package. Bank shares then soared in 2017 when Trump argued that Dodd-frank “made it impossible for bankers to function” and ordered a review of the landmark reform. Last year, a decade after the crisis, he then rolled back what he coined “crippling” rules he said were “crushing” lenders.
But bankers are not on the cusp of a golden era on Wall Street. While the Volcker tweaks are a boost, experts say the move does not mean a return to the dodgy bets that helped spark the last crisis.
“In the end [the revisions] probably don’t change the core of what banks do and how risky they’re willing to be, as this is not the only rule that applies to them,” adds Massari. “It isn’t clear either to regulators or the industry, frankly, how much risk reduction the Volcker rule itself has accomplished.”
Since the rule came into force, the world has also moved on. As well as strict rules already limiting what risk banks can take on (and requiring thousands of compliance staff), banks have already reshaped their teams and closed their once highly lucrative proprietary-trading operations. It is not clear how much of a change this rewrite will have in practice. Nevertheless the move is likely to anger Volcker. Now 91, he has previously told The Telegraph that his big regret was not being five years younger so that he could be better placed to help fix the greed of bankers, politicians and half-baked financial reform. He questioned how much the Wall Street boom years ever translated into tangible wealth for society.
“There are a lot of people in the banking world, especially at the big banks, that say forget about it, we’re back to normal. Leave us alone,” he once said. “But there has to be recognition that the job is incomplete. This, after all, is no ordinary recession. This is a recession on top of a complete financial breakdown and it will take a very, very long time to recover.”
‘This is no ordinary recession. This is a recession on top of a complete financial breakdown and it will take a very long time to recover’