While the world was transfixed on the U.S. Senate hearing room where former FBI director James Comey was testifying in front of lawmakers, across the Capitol, the House of Representatives moved to undo a key part of Barack Obama’s legacy: financial industry reform.
On Thursday, without much fanfare, the House passed the so-called Financial Choice Act, a wide-ranging piece of legislation that rolls back major elements of the Dodd-Frank law, which Democrats moved through Congress in the wake of the 2008 financial crisis and the recession it caused.
In the era of President Donald Trump, the GOP has largely devoted its legislative energy and political capital toward two goals: repealing and replacing the Affordable Care Act, and passing an overhaul of the U.S. tax code for individuals and corporations.
But the passage of the Choice Act represents a guiding principle for the ruling Republicans: undoing, wherever and whenever possible, the regulatory infrastructure put in place during the Obama era.
To the GOP, Dodd-Frank is an especially troublesome part of that infrastructure; to date, besides the American Health Care Act, the Choice Act is their most significant swipe at the federal government’s authority to regulate business.
Never too big to fail
After Obamacare, Dodd-Frank is likely the Obama administration’s most significant legislative achievement. It is an ambitious law that put in place regulatory barriers designed to prevent something like the 2008 crisis from happening again and it provided ways for the government, financial institutions, and consumers to deal if those barriers failed and a crisis hit the market.
Republicans have long argued that Dodd-Frank had good intentions but created unintended consequences, such as crushing smaller banks with the high cost of complying with the law, and putting taxpayers on the hook for another massive bank bailout.
The Choice Act, the product of years of work from Financial Services Committee Republicans, is not quite a repeal of Dodd-Frank, but it overturns its most important elements, and would significantly reshape the federal financial regulatory infrastructure.
First, the bill exempts some banks from Dodd-Frank provisions aimed at curtailing risk-taking by large financial institutions. It overturns the so-called Volcker rule, which prevents commercial banks, whose deposits are underwritten by the Federal Deposit Insurance Corporation, from making risky investments. It also reduces the frequency of the feds’ so-called “stress tests,” which are sporadic, Dodd-Frank-mandated assessments of the health of large financial institutions.
The Choice Act also tears down the mechanism Dodd-Frank set up to deal with failing financial institutions. After the federal government’s costly bailout of major financial institutions in 2008, the architects of Dodd-Frank set up a system called “orderly liquidation authority,” or OLA, to codify responses to a crisis.
If a financial institution deemed “systemically important” — or, colloquially, “too big to fail” — fails, OLA would kick in, and a group of financial institutions would fund a bailout of that institution, managed by the FDIC. (Such a measure would need to be approved by two-thirds of the Federal Reserve Board, and signed off on by the Treasury Secretary.)
Under the Choice Act, failing institutions would simply file for bankruptcy. The legislation updates bankruptcy procedures for financial institutions.
Sixth District Rep. Tom Emmer, who serves on the Financial Services Committee where the bill originated, said OLA allows the federal government to run a failing institution with taxpayer money. “The government should not be in [that] business… If a bank is failing, we have a procedure in place,” Emmer said, referring to the bill’s language on bankruptcy procedure.
Second District Rep. Jason Lewis said that Dodd-Frank’s bailout procedure gives banks a perverse set of incentives, and freed them to take risks knowing that the government would be there to bail them out if it didn’t pan out.
“It codified too big to fail,” Lewis told MinnPost. “The orderly liquidation aspect of it was code in my mind for, if you do things our way and you take a risk that doesn’t work out, we got your back.”
“Instead of relying on regulators with a backstop, I’d rather let a little market discipline come back into the system. If you want to take a risk, we’re not going to be there for you.”
Rep. Keith Ellison, the 5th District Democrat who serves on the House finance panel along with Emmer, disagrees. He told MinnPost that rolling back Dodd-Frank would increase the likelihood of another financial crisis.
Ellison said that under Dodd-Frank, banks don’t simply get a blank check from Uncle Sam if they go under. “If you do go and fail, you have to tell us how you’re going to liquidate and you’re going to have to finance your own liquidation,” he said. “It’s forward looking, responsible, and it makes a lot of sense.”
Reining in the CFPB
The Choice Act also takes aim at elements of Dodd-Frank that have a more immediate impact on consumers, particularly the Consumer Financial Protection Bureau.
The CFPB was set up to help consumers navigate the landscape of financial products, challenge abusive financial practices, and in some cases, write and enforce regulations for various sectors of the financial industry. Since its inception, the CFPB has returned $11.5 billion to 29 million people affected by financial industry practice, through rulemaking and enforcement actions.
Republicans argue that the CFPB, which is headed by a director with broad authority and is fairly independent, is unaccountable to the people and frequently overreaches in its bureaucratic activity.
According to Prentiss Cox, a consumer finance expert at the University of Minnesota, the bill is designed to hobble the CFPB’s ability to make and enforce rules. It would allow the president to fire the agency’s director at will, and subjects the bureau’s budget to the congressional appropriations process, where the GOP-held Congress could deprive it of resources.
Cox argues this will have a chilling effect on the CFPB, whose independence from Congress he says is necessary to do its job well. The Federal Reserve Board is structured similarly; he says “you don’t want the Federal Reserve Board deciding interest rates and looking over its shoulder that Congress is cutting its budget.” The idea behind both regulatory bodies is “insulate it on a day to day basis and make it accountable in the long term.”
It also eliminates the CFPB’s power to challenge abusive practices in the financial industry, and the bureau’s authority to make rules protecting consumers from predatory tactics by payday lenders.
Ellison, a staunch defender of the CFPB, said that the Choice Act gives a Republican Congress the chance to eliminate it altogether. “We knew big institutional players would stop it from doing what it’s supposed to do,” he said, explaining why the bureau is insulated from congressional funding pressures and enjoys relative independence. “We wanted to immunize it on behalf of the public interest.”
A ‘jobs’ bill?
After the bill passed the House, Republicans’ talking points focused less on the CFPB and too big to fail, and more on the benefits the bill would have on smaller banks.
Arguing that the costs of complying with Dodd-Frank were killing community banks and credit unions, the GOP framed the Choice Act as a measure to revitalize those institutions and increase access to capital and credit for individuals and entrepreneurs. (In this vein, Speaker Paul Ryan called it a “jobs bill.”)
Emmer said the bill is essential to the economy because it would invigorate small business by protecting the financial institutions that provide them start-up funds to get off the ground.
According to some smaller bank advocates, the difficulty of complying with Dodd-Frank provisions, and the stiffer regulations that come with growing the bank’s assets, forced them to merge with larger institutions. About 1,500 smaller banks, defined as those with assets below $1 billion, have disappeared in the years since Dodd-Frank’s passage.
(In the big picture, however, smaller banks remain profitable. And others argue that the declining number of small banks isn’t solely explained by Dodd-Frank.)
Ellison said there is bipartisan will to work on targeted legislation to provide relief for smaller banks, but said the GOP showed bad faith by wrapping that issue in a larger bill they knew Democrats hated. “It makes me believe they’re not particularly concerned about community banks,” Ellison said.
Asked why Republican authors didn’t focus on a narrower small banks bill that would get bipartisan buy-in, Emmer said Republicans wanted to make as strong a policy statement as possible.
After the vote, however, GOP campaign organizations quickly moved to slam Democrats who voted against the bill as being against community banks. The National Republican Congressional Committee, of which Emmer is a top deputy, sent out a press release blasting Democrats for opposing “relief for small community banks.”
Senate may narrow focus
Outside Congress, the financial industry’s reaction to the Choice Act has been mixed. The American Bankers Association, the top lobbyist for the industry, supports some elements of the Choice Act but not others; Wall Street, which Republicans claim loathes the bill, is generally opposed to a major shake-up of the rules, partly because it has gotten used to the rules under Dodd-Frank.
Scholars of the financial sector have raised some red flags with the Choice Act. Over 100 professors, led by a Harvard scholar and a Columbia scholar, signed a letter to the Senate and House banking panels, arguing that getting rid of orderly liquidation “risks exacerbating a financial crisis like that which the country faced in 2008-2009.”
Advocates for certain elements of Dodd-Frank can breathe easy, however: it is highly unlikely that the Senate would pass the Choice Act in its current form.
The bill, which earned no Democratic support in the House, is unlikely to get much Democratic support in the Senate, where eight minority-party votes would be needed to pass the bill. Senate finance and banking leaders are reportedly looking at a more narrow compromise on relief for smaller banks.
If the Choice Act is unlikely to endure in its current form, it’s a symbolically important bill for House Republicans that indicates their approach to policy in the era of Trump.
Emmer said that the priority scheme for the GOP is health care, taxes, and infrastructure. “But underlying those three marquee issues that we have to deal with, the Choice Act, or pieces of it, are the foundation to all three of those.
“You do not have a country that works, a federal government that does things it needs to do, unless you have a healthy, growing private economy.”