Marshall Lux is a senior fellow and Robert Greene is a research associate at the Mossavar-Rahmani Center for Business and Government at Harvard's John F. Kennedy School of Government.

With more than 22,000 pages of regulations, the destabilizing consequences of the Dodd-Frank Wall Street Reform and Consumer Protection Act are numerous. One notable concern is that the law has forced consolidation of the United States banking system. The number of community banks (those with less than $10 billion in assets) shrank 14 percent between Dodd-Frank’s passage in 2010 and late 2014. Surely, consolidation is driven by many factors, some of which are good. It is also no recent trend, but neither is regulatory growth: between 1997 and 2008, banking regulations grew 18 percent.

The law’s “Wall Street” focus snares small banks in a complex web of rules designed for larger banks, forcing them to divert resources to compliance, or worse, to close their doors.

When regulations – not consumers – drive consolidation, banking system risk increases. Dodd-Frank’s “Wall Street” focus snares community banks in an increasingly complex web of rules designed for larger banks. As such, the law forces well-managed institutions to unnecessarily divert resources to compliance (survey data shows community banks are doing just that), or worse, to close their doors. Minneapolis Fed research suggests that adding just two members to the compliance department would make a third of the smallest banks unprofitable.

Regulatory-driven consolidation is particularly concerning because as Fed Gov. Daniel Tarullo noted in a 2009 speech, the importance of traditional financial services – like those provided by community banks – “tends to increase” in times of crisis. In a 2015 working paper we found that while these banks accounted for just 22 percent of outstanding bank loans, they also accounted for over three-quarters of agricultural loans and half of small business loans. While “the financial crisis did not originate in smaller banks,” as Tarullo noted, the post-crisis response jeopardizes their critical role in banking system resiliency.

But is consolidation a necessary consequence of achieving "Wall Street Reform"? Absolutely not. In fact, the financial system will certainly be safer when Main Street banks don’t need a Wall Street lawyer in order to exist.

As the Bank of England’s Andrew Haldane accurately noted in 2012, regulatory simplicity is key to combating risks brought about by increasing financial system complexity. By adding massive layers of rules atop an already convoluted U.S. bank regulatory framework, Dodd-Frank inherently drives consolidation. A costly web of uncoordinated bank regulations crafted around past financial crises distracts U.S. banks from designing and implementing more effective firm-tailored risk management strategies. Simplifying U.S. bank regulation is critical to reducing financial system risk.



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