By: Anthony Coley

Page Content

In the fall of 2008, our economy faced challenges on a scale not seen since the Great Depression. In response, the federal government took unprecedented actions to protect the economy and reform a broken and outdated financial system to provide better protections for taxpayers and consumers. The notion that these reforms are somehow a “myth,” as Rana Foroohar suggests in her September 23, 2013 story is wrong.

It is an undeniable fact that the financial system we have today – the system that Americans rely on to take out a mortgage, save for college, open a small business, even write a check – is safer, stronger and more resilient than it was five years ago.

The Dodd-Frank Wall Street Reform and Consumer Protection Act has given regulators the tools and authorities they need to monitor risk across the modern financial system and replaced a pre-crisis regulatory regime that was built for another era. Financial markets are now more transparent and, for the first time, Americans now have one, dedicated consumer financial watchdog agency, the Consumer Financial Protection Bureau. (This historic new agency, and its recent actions on behalf of consumers, were not mentioned in Ms. Foroohar’s article).

​There is still more to do in order to protect taxpayers, consumers, and our financial system, but it is important to paint a realistic picture of the important changes to the financial system that have occurred . Let’s step back and address a few larger truths about financial reform, as categorized by the article:

Point One: Too Big To Fail, Pace of Rulemaking and Volcker Rule

As a matter of law, Dodd-Frank ended the notion that any firm is "too big to fail." Banking will always involve some degree of risk-taking, and the goal is not to eliminate all risk in banking. But now, if a financial firm fails, taxpayers will not have to bear the cost of that failure.

Regarding the pace of reform by independent regulators: From his first hours in office, Secretary Lew has stepped on the accelerator for the implementation of Dodd-Frank. In fact, he went right from his swearing-in ceremony in the Oval Office to chair his first meeting of the Financial Stability Oversight Council, and financial reform has been a central focus since.



As Secretary Lew said earlier this summer, by the end of this year, the core elements of the Dodd-Frank Act, including the Volcker Rule, will be substantially in place​.

It is also important to note that a lot has been done to strengthen the financial system and provide better protection for taxpayers and consumers. To date, more than three quarters of Dodd-Frank rules with deadlines before September 3, 2013 have been proposed or finalized. This summer alone has been an active period of implementation. For instance, banking agencies have put in place higher capital standards and have proposed new leverage rules. The Commodity Futures Trading Commission has taken a major step forward on the application of derivatives rules to cross-border transactions. The Securities and Exchange Commission is closer to creating new rules for money market mutual funds. And the Financial Stability Oversight Council (Council) designated two of the largest and most complex nonbank financial companies for consolidated supervision and enhanced prudential standards.

Point Two: Capital and Leverage Ratios

Strong capital requirements are essential for preventing future financial crises.

This was one of the central - and simplest - lessons of the 2008 financial crisis, one the Obama administration took to heart from the beginning. In June 2009, President Obama called for financial firms to hold more capital to increase their ability to withstand potential losses.

​​

Since then, the administration has worked with C

ongress, the Federal Reserve, and other financial regulators to put stronger capital requirements at the core of our efforts to strengthen the financial system.

Those efforts began by requiring the largest, most complex banking institutions to substantially improve their capital cushions. (Today, industry-wide Tier 1 common capital levels are more than $1 trillion - up 70 percent, or $450 billion, from four years ago. Banks have also curtailed their reliance on short-term funding, reducing their vulnerability to losses of liquidity in the financial markets). Moreover, the new capital rules require significantly more capital to be held against riskier assets than before. These efforts continue as we implement heightened capital, leverage and liquidity standards under Wall Street Reform and through the Basel and G-20 new global standards. This summer, U.S. banking agencies proposed a leverage requirement of 5 to 6 percent for the largest banks, versus the minimum Basel standard of 3 percent. These rules will not treat large financial institutions and small institutions such as community banks the same. They will take into account that large financial companies pose significantly greater and distinct risks to the financial system.



As regulators work to implement reforms, Wall Street has already started to change. The largest financial institutions have significantly altered their business models. There has been movement away from risky proprietary trading and an increased focus on traditional banking. Moreover, these institutions are better capitalized and are less leveraged, thus providing better protections for American taxpayers. Point Three: Derivatives The build-up of risk in derivatives, one of the largest, but most opaque, financial markets was one of the key contributors to the crisis. Wall Street Reform requires comprehensive reform of the over-the-counter (OTC) derivatives market. And three years after the landmark law, a new framework for regulatory oversight of the OTC market, which reduces overall risk to the financial system, is largely in place, and includes regulation of swap dealers by the CFTC (swap dealer registration is now in effect), derivatives clearing (certain interest-rate and credit-index swaps are now subject to mandatory clearing by clearinghouses), and trading/transparency requirements (transaction reporting is also in effect). Point Four: Shadow Banking The risk in the so-called “shadow banking system” – the financial firms that operated outside of the protections and constraints we impose on banks – has fallen substantially since the crisis. Assets in the “shadow banking system” are roughly half the level seen in 2007. Funding through tri-party repurchase agreements has fallen 40 percent from its peak in 2007, and asset-backed commercial paper outstanding – which was often used to fund leveraged off-balance sheet vehicles – is a third of what it was in 2007. ​We now have the authority to subject, through designation by the Council, major financial companies operating in the United States to consolidated supervision and adherence to heightened prudential standards, such as enhanced capital, liquidity, and risk management requirements. That represents a dramatic change from before the crisis, when there was no authority for such regulation of such institutions, which comprised more than half of the financial activity in the nation. Point Five: Culture of Finance While there is still work to do, today the financial system is safer, stronger and more resilient than it was before the crisis. The largest firms pay more to borrow and operate today than at any time prior to the financial crisis. Moreover, the U.S. financial system is now in a position to finance a growing economy and is no longer a source of risk to the recovery. Unfortunately, the author ignores this progress and focuses instead on the size of banks relative to GDP. As the author acknowledges, capital levels have increased and leverage ratios have fallen. Any fair observer would credit those efforts with helping to make the financial system safer. Moreover, with any discussion about bank size it is important to note that the U.S. banking system is proportionally smaller than that of other advanced economies. Even with the consolidation of some of the weakest actors during the crisis, the United States has both the least concentrated banking system of any major economy and the smallest banking system relative to the size of its economy. In addition, the availability of new legal tools established by Wall Street Reform means that regulators will be better able to resolve these large financial institutions, if necessary in the event of their failure. If the crisis has taught us anything, it’s that we must remain vigilant to emerging risks in the system. The financial system is dynamic and firms are innovative. Regulation and oversight must keep pace. For more information on the financial crisis, the federal government’s response and subsequent efforts to reform the financial system please click below.

Anthony Coley is Deputy Assistant Secretary for Public Affairs at the U.S. Department of the Treasury.​

​​​​​