Analyzing the Controversy over the Volcker Rule

This article was featured on the DBJ Instablog on Seeking Alpha.

As the United States economy struggled to avoid complete collapse in the height of the financial meltdown, leading players in the regulatory arena, as well as those in Congress, pushed for a solution that would prevent any future downturn from escalating to the near catastrophic levels of 2009. That solution emerged in the form of the Dodd-Frank Wall Street Reform and Consumer Protection Act, which passed Congress on party lines and was signed by President Obama on July 21, 2010.

Dodd-Frank formed a key part of President Obama’s plan for economic recovery. The law significantly overhauls the American financial regulatory system, creating a new Consumer Financial Protection Bureau, limiting risky trading, implementing a new regulatory regime for credit agencies and insurance companies, among others. The law is arguably the biggest push for financial reform since the Great Depression, and given its length and breadth, has generated substantial opposition.

One of the most controversial provisions of Dodd-Frank is the Volcker Rule, named after former Federal Reserve Chairman Paul Volcker. The rule would ban most forms of proprietary trading, which prevents financial firms from profiting directly from trading on the market, as opposed to profiting through commissions. This rule is significant in that it can potentially prevent some of the dangerous behavior that helped cause the financial collapse. Because of the ardent opposition by banks and the limited financial resources appropriated to regulatory agencies, the Securities and Exchange Commission and other financial regulators have requested additional authority to prosecute violators and impose penalties.

But Republicans in Congress see the Volcker Rule as an unwarranted and harsh crackdown on financial activities necessary to promote healthy economic growth. Chairman of the House Financial Services Committee Jeb Hensarling (R-TX) said previously in a statement that the final version of the Volcker Rule “is just the latest example of Washington’s regulatory overkill that ends up hurting more than it helps.”

In this new Congressional session, a bill to delay the Volcker Rule failed in its first attempt to pass the House of Representatives when Republicans used a procedural rule requiring a two-thirds majority to speed up its passage. That effort failed 276-146, but ultimately, a new attempt under regular order passed by a simple majority of 271-154. While twenty-nine Democrats voted with a unified Republican caucus in support of the bill, its passage into law is doubtful given fierce Democratic opposition in the Senate and a likely presidential veto. “One day into the new Congress,” said Senator Elizabeth Warren (D-MA), one of the leading proponents of financial regulation, “House Republicans are picking up right where they left off: trying to gut Wall Street reforms so that big banks can make more risky bets using taxpayer-backed money.”

The controversy over the Volcker Rule and Dodd-Frank in general stems down to a difference in political viewpoints between Democrats and Republicans on how much regulation is necessary to prevent a future financial collapse. Democrats cite the need for increased reforms and requirements on big banks in order to safeguard consumers and prevent large financial institutions from growing to be “Too Big to Fail” and bringing down the economy in the event of bankruptcy. Republicans, on the other hand, believe these increased regulations hamper financial growth and economic recovery, and they point to deregulation as necessary to promote growth. Political consensus on this fundamental difference appears doubtful, but smaller bills have previously garnered bipartisan support, indicating the possibility for compromise in the future.

The Dodd-Frank Act is one of the most sweeping pieces of financial reform legislation ever to become law, but only time will tell whether it will have the fortitude to resist sustained attacks from the financial industry. Furthermore, many believe it has not gone far enough to prevent a future financial collapse, a reflection of the legislative process as well as sustained opposition from Republicans. Now, with a wholly Republican Congress and only two more years left in President Obama’s second term, the future of many of President Obama’s initiatives remains uncertain. As the economy approaches full recovery from the financial collapse, the impetus for additional regulations will undoubtedly diminish, as legislators move beyond the financial collapse. The debate over Dodd-Frank and the Volcker Rule will surely continue beyond 2017, and as partisan politics heighten as the 2016 election season begins, President Obama’s record will become a key component of the campaign.