Reconciled Financial Reform Includes Volcker Rule, Derivatives Reform

A conference of House Representatives and Senators agreed early this morning on a sweeping financial regulatory reform bill after weeks of reconciliation between separate House and Senate versions. The reconciled bill establishes the Consumer Finance Protection Bureau, ends taxpayer-funded bailouts, brings greater regulation to the derivatives market and provides grants through the US Department of Housing and Urban Development (HUD) to help mortgage borrowers facing foreclosure. The bill is a major step forward in protecting against future mortgage-related financial fallout, after weeks of discussion in the Congressional committee that reconciled the House and Senate bills. “I worked from day one to clean up the mess that Wall Street and special interests caused with their greed, bringing our economy to the brink of collapse,” said Rep Mary Jo Kilroy (D-OH) in a statement. “Wall Street failed Ohioans and Americans when they took bets on no-win investments that led the economy off a cliff. Taxpayers shouldn’t ever foot the bill of foolish risk takers who think they can rely on the government bailing them out when they mess up.” The bill requires banks to hold 5% of any asset-backed securities issued, and introduces a $19bn tax on large financial institutions. However, exemptions are available for FHA and VA mortgages. It also includes a framework for winding down large failed institutions, with funding initially coming from the Treasury Department. The language leaves open the possibility for the Treasury to recoup some of the costs, but “the mechanics…are unclear” as to how that would happen, according to Paul Ashworth, senior US economist at Capital Economics. Ashworth noted there remains a “watered-down” version of the Volcker Rule, named for former Federal Reserve Board chair Paul Volcker, in the final bill. Under the bill, depository banks are required to curb proprietary trading and limit the size of — but not ban — direct investments in hedge funds or private equity funds. “In our view, many of the provisions in the bill would help to reduce the risk of an identical crisis developing,” Ashworth said. “Several of those provisions will collectively reduce the scope for large financial institutions to increase leverage and take excessive risks with the deposits entrusted to them.” He noted that the reconciled reform bill will not prevent another crisis, but will help ensure commercial banks do not take speculative risks. “This time it was sub-prime mortgages and exotic asset-backed securities but, even though the effects are often similar, the causes of the crises always differ,” Ashworth said. “Whether it is savings and loans, junk bonds, dot-com stocks, railroad stocks, Florida swampland or even tulips, there is always someone somewhere who is willing to borrow money to make what turns out to be an ill-advised speculative investment.” Write to Diana Golobay. Additional reporting by Jacob Gaffney.

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