Dodd-Frank Wall Street Reform Act
8 Ways a Repeal Hurts You
The Dodd-Frank Wall Street Reform and Consumer Protection Act is a law that regulates the financial markets and protects consumers. Its eight components help prevent a repeat of the 2008 financial crisis.
It's the most comprehensive financial reform since the Glass-Steagall Act. Glass-Steagall regulated banks after the 1929 stock market crash. The Gramm-Leach-Bliley Act repealed it in 1999. That allowed banks to once again invest depositors' funds in unregulated derivatives. This deregulation helped cause the 2008 recession.
The Dodd-Frank Act is named after the two Congressmen who created it. Senator Chris Dodd introduced it on March 15, 2010. On May 20, it passed the Senate. U.S. Representative Barney Frank revised it in the House, which approved it on June 30. On July 21, 2010, President Obama signed the Act into law.
Many banks complained that the regulations were too harsh on small banks. On May 22, 2018, Congress passed a rollback of Dodd-Frank rules for these banks.
Here are eight ways that Dodd-Frank implements its goals and makes your world safer. It also explains why these changes were made.
1. Keeps an Eye on Wall Street. The Financial Stability Oversight Council identifies risks that affect the entire financial industry. If any firms become too big, the FSOC will turn them over to the Federal Reserve for closer supervision. For example, the Fed can make a bank increase its reserve requirement. That will make sure they have enough cash on hand to prevent bankruptcy. The chair of the FSOC is the Treasury secretary. The council has nine members. They include the Securities and Exchange Commission, the Fed, the Consumer Financial Protection Bureau, the Office of the Comptroller of the Currency, the Federal Deposit Insurance Corporation, the Federal Housing Finance Agency, and the Consumer Financial Protection Agency. Dodd-Frank also strengthened the role of whistleblowers protected under Sarbanes-Oxley.
2. Keeps Tabs on Giant Insurance Companies. Dodd-Frank created a new Federal Insurance Office under the Treasury Department. It identifies insurance companies that create a risk for the entire system like the American International Group Inc. did. It also gathers information about the insurance industry. In December 2014, it reported the impact of the global reinsurance market to Congress. The FIO makes sure insurance companies don't discriminate against minorities. It represents the United States on insurance policies in international affairs. The FIO works with states to streamline regulation of surplus lines insurance and reinsurance.
3. Stops Banks from Gambling with Depositors' Money. The Volcker Rule bans banks from using or owning hedge funds for their own profit. It prohibits them from using your deposits to trade for their profit. Banks can only use hedge funds at a customer's request. Banks lobbied hard against this rule, but it didn't really impose a hardship. First, banks had until 2015 to comply. Second, they could still trade with 3% of revenue. Most banks were already within that minimum.
4. Reviews Federal Reserve Bailouts. The Government Accountability Office can review future Fed emergency loans, and the Treasury Department must approve the new powers. This calmed critics who thought the Fed went overboard with its bailouts. But the GAO had already audited the Fed's emergency loans made during the crisis. The Fed also made public the names of banks that received loans. And the central bank worked closely with the Treasury Department throughout the crisis.
5. Monitors Risky Derivatives. The Securities and Exchange Commission or the Commodity Futures Trading Commission regulate the most dangerous derivatives. They are traded at a clearinghouse, similar to the stock exchange. That makes the trading function more smoothly. The regulators can also identify excessive risk and bring it to policy-makers' attention before a major crisis occurs. Most traders appreciate this aspect of Dodd-Frank and don't want it changed.
6. Brings Hedge Fund Trades into the Light. One of the causes of the 2008 financial crisis was that hedge fund trades had become so complex no one really understood them. When housing prices fell, so did the value of the derivatives traded. But instead of dropping a few percentages, their prices fell to zero. To correct that, Dodd-Frank requires all hedge funds to register with the SEC. They must provide data about their trades and portfolios so the SEC can assess overall market risk. This gives states more power to regulate investment advisers. Dodd-Frank raised the asset threshold from $30 million to $100 million. By January 2013, 65 banks around the world had registered their derivatives business with the U.S. Commodity Futures Trading Commission or the CFTC. That compliance makes the world safer. It's also why a Dodd-Frank repeal would create confusion for banks that had already registered.
7. Oversees Credit Rating Agencies. Dodd-Frank created an Office of Credit Ratings at the SEC. It regulates credit-rating agencies like Moody's and Standard & Poor's. These agencies helped cause the crisis by saying some derivatives were safe when they weren't. The SEC can require them to submit their methodologies for review. It can deregister an agency that gives faulty ratings.
8. Regulates Credit Cards, Loans, and Mortgages. The Consumer Financial Protection Bureau consolidated many watchdog agencies and put them under the U.S. Treasury Department. It oversees credit reporting agencies and credit and debit cards. It also oversees payday and consumer loans, except for auto loans from dealers. It also monitors credit and debit cards and credit reporting agencies. Banking fees are also under the purview of the CFPB. These include credit, debit, mortgage underwriting, and other bank fees.
The CFPB protects consumers in home real estate transactions. That includes title, escrow, and financing businesses affiliated with realtors and homebuilders. It oversees equal credit opportunity and fair housing. It also sets standards for all mortgage offerings. Although it doesn’t ban risky mortgage loans, such as interest-only loans, it protects homeowners by requiring they understand what they are getting into. Banks have to prove that borrowers understand the risks. They also have to verify borrower's income, credit history, and job status.
The Bureau wrote user-safety rules for all consumer financial products. It consolidated many watchdog agencies and put them under the U.S. Treasury Department. The CFPB reports to the Treasury Department.
One of its important functions is levying fines against lenders who break its rules. It mandates that loan disputes be allowed to go to court, not just arbitration.
The CFPB was also instrumental in permanently increasing the Federal Deposit Insurance Corporation's insurance on bank deposits to $250,000.
Many banks complained that the regulations were too harsh on small banks. On May 22, 2018, Congress passed a rollback of Dodd-Frank rules for these banks. The Economic Growth, Regulatory Relief, and Consumer Protection Act eased regulations on "small banks." These are banks with assets from $100 billion to $250 billion. They include American Express, Ally Financial, and Barclays.
The rollback means the Fed can't designate these banks as too big to fail. They no longer have to hold as much in assets to protect against a cash crunch. They also may not be subject to the Fed's "stress tests." As a result, only the 12 biggest U.S. banks have to comply with this portion of Dodd-Frank.
In addition, these smaller banks no longer have to comply with the Volcker Rule. Now banks with less than $10 billion in assets can, once again, use depositors' funds for risky investments.
The new Act does allow consumers to freeze their credit for free. Previously, they had to pay a $10 fee to each credit company.
President Donald Trump would like to repeal Dodd-Frank completely. Trump claims Dodd-Frank keeps banks from lending more to small businesses.
But the Act targets large banks. They have consolidated and grown since the financial crisis. Small businesses are more likely to borrow from small banks, not big banks. The biggest problem for small banks has been the low-interest rate climate that's prevailed since 2008. It reduces their profitability.
Trump's cabinet members say that banks no longer need the extra rules and supervision. They argue that banks have enough capital to withstand any crisis. But banks are only so well-capitalized because of Dodd-Frank.
A repeal would create havoc. Hundreds of Dodd-Frank rules have already been integrated into international banking agreements.
How Trump's Plan Further Weakens Dodd-Frank
Although Dodd-Frank can't be repealed, Republicans are loosening its regulations within the United States.
Trump has weakened the CFPB by hiring staff who oppose it. As a result, enforcement actions have dropped by 75%, despite rising consumer complaints. At least 129 employees have left.
On February 3, 2017, Trump signed an executive order that asked the U.S. Treasury to propose Dodd-Frank changes. One of its proposals was to reduce the requirement for bank stress tests from annually to every two years. These tests tell the Federal Reserve whether a bank has enough capital to survive an economic crisis.
Trump's plan would allow the president to remove the CFPB director for any cause. It would switch its funding from the Federal Reserve to Congress.
It suggested modernizing the Community Reinvestment Act. That law requires banks to lend based on a household's income regardless of what neighborhood it is in. Before the Act, banks would "redline" entire neighborhoods as too risky. That meant they would refuse mortgages even to high-income households within that neighborhood. (Sources: "Dodd-Frank Wall Street Reform Act," U.S. Senate. "Summary of Dodd-Frank Reform Act," Morrison & Forster.)
How Dodd-Frank Affects You
Most of Dodd-Frank addresses the fundamental banking industry problems that caused the financial crisis. It extends supervision to hedge funds, insurance companies, and other financial firms. Before the crisis, these companies didn't want government regulation. During the crisis, they clamored for a bailout on the taxpayers' dime. The Act also protects consumers from getting ripped off by credit card companies, payday lenders, and others.
Dodd-Frank allows the government to identify banks and insurance companies that are becoming too big to fail. During the financial crisis, the government had no authority to stop financial firms from taking on too much risk. It's one reason why Lehman Brothers went bankrupt and insurance giant American International Group Inc. required a bailout.
With Dodd-Frank, the government can turn over risky banks to the Federal Reserve to supervise. It can keep better tabs on insurance companies. Dodd-Frank also prevents banks from using their depositors' cash to invest in hedge funds. The Treasury Department now has final say on any bailouts made by the Federal Reserve.
The Act allows the government to regulate dangerous derivatives, like credit default swaps. It also requires all hedge funds to register with the SEC. Hedge funds' use of derivatives was one of the primary causes of the subprime mortgage crisis. Dodd-Frank also allows the SEC to oversee credit-rating agencies like Moody's and Standard & Poor's. Those agencies said some mortgage-backed securities were good when they weren't.