Thursday , August 17 2017
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Making Crises Great Again

Summary:
CAMBRIDGE – Debates about financial regulation tend to focus on quantity, not quality. But “more versus less” isn’t so much the issue; the details are. And when it comes to financial reform in the United States, President Donald Trump is unlikely to get the details right. Earlier this month, Trump issued an executive order directing a comprehensive review of the Dodd-Frank financial-reform legislation of 2010. The administration’s goal is to scale back significantly the regulatory system put in place in response to the 2008 financial crisis. This is a risky move. Dodd-Frank’s key features – such as higher capital requirements for banks, the establishment of the Consumer Financial Protection Bureau, the designation of Systemically Important Financial Institutions, tough stress tests on banks, and enhanced transparency for derivatives – have strengthened the financial system considerably. Undermining or rescinding them would substantially increase the risk of an eventual recurrence of the 2007-2008 financial crisis. This is not to say that current legislation could not be improved. The most straightforward way to do that would be to restore some of the worthwhile features of the original plan that have been weakened or negated over the last seven years.

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CAMBRIDGE – Debates about financial regulation tend to focus on quantity, not quality. But “more versus less” isn’t so much the issue; the details are. And when it comes to financial reform in the United States, President Donald Trump is unlikely to get the details right.

Earlier this month, Trump issued an executive order directing a comprehensive review of the Dodd-Frank financial-reform legislation of 2010. The administration’s goal is to scale back significantly the regulatory system put in place in response to the 2008 financial crisis. This is a risky move.

Dodd-Frank’s key features – such as higher capital requirements for banks, the establishment of the Consumer Financial Protection Bureau, the designation of Systemically Important Financial Institutions, tough stress tests on banks, and enhanced transparency for derivatives – have strengthened the financial system considerably. Undermining or rescinding them would substantially increase the risk of an eventual recurrence of the 2007-2008 financial crisis.

This is not to say that current legislation could not be improved. The most straightforward way to do that would be to restore some of the worthwhile features of the original plan that have been weakened or negated over the last seven years. Dodd-Frank might, in theory, also benefit from a more efficient tradeoff between the compliance costs that banks and other financial institutions confront and the danger of systemic instability (in areas like the “Volcker Rule” restricting proprietary trading by banks).

But achieving this would be a difficult and delicate task. Contrary to what some in the financial industry seem to believe, there is no evidence that Trump will manage it properly. On the contrary, even before the review of Dodd-Frank gets going, Trump has already gotten financial regulation badly wrong.

As Trump ordered the review of Dodd-Frank, he also suspended implementation, pending review, of the so-called fiduciary rule, adopted, after extensive preparation, by President Barack Obama’s administration. The rule, which was supposed to take effect in April, is intended to ensure that professional financial advisers and brokers act in the best interests of their clients when collecting fees to advise them on assets invested through retirement plans.

The need for such a rule is clear. Many investment advisers and brokers are motivated by conflicts of interest to recommend a stock, bond, or fund that is not quite as good as another. For example, the adviser may receive an undisclosed commission or de facto “kickback” for recommending a particular product. It may be the advising firm’s own offering. Because...

Jeffrey Frankel
Jeffrey Frankel, a professor at Harvard University's Kennedy School of Government, previously served as a member of President Bill Clinton’s Council of Economic Advisers. He directs the Program in International Finance and Macroeconomics at the US National Bureau of Economic Research, where he is a member of the Business Cycle Dating Committee, the official US arbiter of recession and recovery.

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