By Kevin Gosztola
President Obama signed the Dodd-Frank Act otherwise known as the financial reform bill into law on July 21st. The bill, characterized by Obama as "the most sweeping financial reform legislation since the Great Depression," supposedly created the "strongest consumer financial protections in history."
The legislation created a Bureau of Consumer Financial Protection, imposed regulations on "risky financial instruments," and put in place regulations on credit and debit card fees.
Skeptical of the legislation, I spoke with Mark Perlow, an investment management advisor who works for an investment management practice in San Francisco. Perlow's practice focuses on fund managers (e.g mutual fund managers, hedge fund managers and other investment advisers) and represents a lot of financial firms.
For those wondering, a hedge fund, as defined by Perlow, is "a pool of capital that under Securities Exchange Commission (SEC) rules can't market itself publicly or to investors below a certain level of personal net worth as a way of essentially making sure that only sophisticated investors that can afford to take a lot of risks can invest them. Hedge funds are essentially vehicles that exist to follow investment strategies that mutual funds are not allowed to follow because of SEC rules."
As the financial reform legislation developed and changed in Congress, Perlow followed the evolution. He tracked the bill on behalf of his clients and read much of the bill so that he would be able to advise his clients on how to comply with the new legislation.
"The bill directly affects most of my clients," said Perlow. "I've spent most of the past month following the legislation closely and helping to prepare a series of summaries of the legislation for our clients that are posted on my firm's websites."
The provision that will have the most impact or effect on what Perlow and his clients is "the provision that regulates hedge fund managers" and "private equity managers." According to Perlow, that section will directly affect his client base. And, so will "the section that regulates the derivatives market" because many of his clients "routinely use derivatives as an investment tool."
"The derivatives reform provisions are a complete overhaul of the U.S. derivatives market. It's really a dramatic and comprehensive set of reforms," explained Perlow. "So anybody who deals in the derivatives market" is going to have to understand how those provisions work."
Perlow said the "financial stability provisions" will also "affect all financial firms to a certain degree."
"The Dodd-Frank Act creates a new financial stability oversight council whose job it is to monitor the entire financial sector and to figure out the riskiest parts and decide which ones need more regulation," said Perlow. "So, if you're a large financial firm of whatever type of flavor or stripe, I think that you need to understand the way this new stability oversight council is going to operate."
Perlow mentioned the Volcker rule saying it "would require banks and bank holding companies to either divest or restructure their proprietary trading operations and their hedge fund in private equity management affiliate," and that would affect many of his clients affiliated with banks.
The Volcker rule, according to Business Week, is a proposed rule created by former Federal Reserve chairman Paul Volcker to "curb risk-taking that fueled the financial crisis." The rule had much stronger language to ban banks from running private-equity and hedge funds but was significantly weakened by the addition of language signifying that banks could "invest up to 3 percent of their capital in such funds." Volcker is said to have been disappointed that Congress was unable to ban "banks from trading with their own capital."
Perlow talked about how the bill mainly "creates a framework" for regulators:
"For most of the important provisions in the act, all it really does is it creates a framework. It authorizes the federal financial regulators to write rules into enforcement and gives them a lot of power in order to do that. So, really the effectiveness of the law is going to be dependent to a very large degree on how firm the regulators are and in my line of work everybody recognizes that that the next stage turns to the rulemaking and the enforcement efforts of the SEC, the CFTC, the Treasury Dept, the Federal Reserve and other financial regulators.
If I were a teacher giving this act a grade, I would give it an incomplete because we don't really know how it's going to play out until we see how the regulators are going to implement it."
This explanation correlates with economist and co-author of 13 Bankers Simon Johnson's assessment that intense debate over banking does not end with the signing of this bill. Now attention turns to whether regulators will push for more rules with tough language that can fit into the framework of the legislation.
I asked Perlow to explain what the enforcement mechanisms in the bill were. He explained how much of the bill will be implemented and enforced:
"The majority of the provisions of the Dodd-Frank Act are to be implemented and enforced by regulators that have been given strong and enhanced enforcement powers. So, derivatives, for instance, will be regulated by the Commodity Futures Trading Commission (CFTC) and the Securities & Exchange Commission (SEC), both of which already have strong enforcement programs, both of which have activist chairman who pushed strong enforcement actions and both of which have received enhanced enforcement power and larger budgets to hire more personnel under the Dodd-Frank Act. So, I believe both the SEC and the CFTC will be very vigilant watchdogs in enforcing the provisions under their purview the hedge fund rules, the derivatives rules, the credit rating agency rules, the securitization rules."
Perlow contended that the new consumer financial protection bureau would also have strong enforcement powers. He said that banks with more than 10 billion dollars would be subject to the agency's examinations.
"There will be a staff of examiners whose job it is to go on the premises and examine the consumer protection safeguards in compliance with the law that banks have on their products and services that they provide to consumers," explained Perlow. "And, if they find anything that is in violation of the law, they'll bring an enforcement action against them."
Finally, according to Perlow, "the industry believes that this is an agency that will have a lot of teeth." Although, for Perlow, he said it will not "touch investment products mutual funds, hedge funds, brokerage accounts" so it would appear the agency will mean little to many of the clients Perlow represents.
Currently, a battle over who will run the consumer protection bureau is playing out. The most popular candidate for the position is Elizabeth Warren, who developed the idea for the bureau and she served as the chair of the Congressional Oversight Panel that was created to investigate and monitor how banks were handling the bailouts given to them under the Troubled Assets Relief Program (TARP). But, banks with the help of Timothy Geithner are working to create doubt that Warren is the right candidate for the position.
Perlow concluded:
"This is a strong consumer protection law with a lot of teeth. It doesn't cover every area that it could have covered. But, something unusual happened with this law that doesn't normally happen, which is that laws this big that affect the financial industry usually as they make their way through Congress usually become more friendly to the industry as time goes by, as the legislative process works. Usually as the legislators meet with lobbyists, they start to accommodate more to the industry's views.
The reverse process happened in this bill. The longer that Congress considered it, the more time that it spent being deliberated on, the stronger and tougher the bill got, which I believe reflects both Congress' substantive desire to come up with a strong bill as well as the general popular sentiment toward the financial industry."
Dean Baker, Paul Krugman, Robert Reich, Nouriel Roubini, Joseph Stiglitz and other economists who track the economy and who actually in many cases predicted the economic collapse of 2008 all find the reform legislation to be lacking. They probably would disagree with Perlow's conclusion. However, if investment management advisors are finding they have to advise clients in the financial industry to shift their operations significantly in order to comply with the new law, I suppose that's a positive indication that this bill actually does something.
In the end, it depends on what you think the goal of the legislation should have been. If the goal was to ensure another financial collapse never occurs, well, then there's much more that could have been done (like, for example, re-instituting the Glass-Steagall Act). But, if it was to shake up the industry and force entities in the financial industry to follow a new set of procedures and rules that could potentially give more security to consumers in this country, than, as evidenced by Perlow, this bill succeeds.
From OpEdNews.com published on July 24, 2010 at 23:08:02
