Regulators Urged to Focus on Dodd-Frank Before Too-Big-to-Fail

U.S. regulators should focus on finishing work on the 2010 Dodd-Frank Act before considering whether the law does enough to end too-big-to-fail, Senate Banking Committee Chairman Tim Johnson said at a hearing today.

Johnson, a South Dakota Democrat, made the comments as top officials from seven agencies updated lawmakers on progress in implementing the overhaul amid competing complaints that their rules will foster a repeat of the 2008 credit crisis or stunt recovery from the worst financial collapse since the 1930s.

“While concerns have been raised about whether a few firms remain too big to fail, Wall Street Reform provides regulators with new tools to address the issue head on,” Johnson said. “This is one of the many reasons why full implementation of the law remains important, not just for our constituents, but for future generations.”

Regulators and lawmakers from both parties raised concerns about whether the government will have to step in to rescue firms whose collapse would threaten the broader economy. Senator Elizabeth Warren, the Massachusetts Democrat elected after gaining prominence as a consumer advocate, questioned the lack of prosecutions stemming from the 2008 crisis, asking whether regulators consider Wall Street “too big for trial.”

Daniel Tarullo, the Federal Reserve governor responsible for financial regulation, said lawmakers rightly called on the agencies to address issues such as shadow banking, increased capital and the size of complex financial companies.

‘Draw Attention’

“From my point of view the importance of what you’ve done is to draw attention to that issue of short-term, non-deposit runnable funding and that’s the one we should be debating in the context of too big to fail and in the context of our financial system more generally,” he said at the hearing.

Tarullo testified alongside officials from the Treasury Department, Federal Deposit Insurance Corp and Office of the Comptroller of the Currency as regulators promised progress on key Dodd-Frank provisions including mortgage securitization and the Volcker rule ban on banks’ proprietary trading.

Warren, who led a congressional oversight panel for the U.S. bank-industry bailout and shaped the Consumer Financial Protection Bureau before seeking office, said she was concerned that “too big for fail has become too big to trial,” citing regulators’ tendency to settle cases rather than prosecute allegations of wrongdoing by banks.

“If they can break the law and drag in billions in profits and then turn around and settle paying out with those profits they don’t have much incentive to follow the law,” Warren said during a question-and-answer session at the hearing.

‘Vigorous Enforcement’

“When we look at these issues -- and we truly believe that we have a very vigorous enforcement program -- we look at the distinction between what we could get if we go to trial, and what we could get if we don’t,” said Securities and Exchange Commission Chairman Elisse Walter said.

Comptroller of the Currency Thomas Curry told Warren that his agency hasn’t felt compelled to bring people to trial.

“We have not had to do it as a practical matter to achieve our supervisory goals,” he said. “We primarily view the tools we have as mechanisms for correcting deficiencies.”

Tarullo, Dallas Fed President Richard Fisher and Senator Sherrod Brown, an Ohio Democrat who serves on the Banking Committee, have expressed the view that Dodd-Frank failed to curb banks’ growth after promising to “end too big to fail.”

Strategies under consideration include bills to cap the size of banks or make them raise more capital and regulatory actions to discourage mergers or require specified levels of long-term debt the could be converted to equity in a failure.

Brown’s Legislation

Brown plans to reintroduce a bill that was left out of Dodd-Frank and then bypassed in the last Congress that would cap bank size and limit non-deposit liabilities.

Colleagues have “come around to looking at this pretty favorably, so we’ve seen a lot of momentum,” Brown said today.

Senator Bob Corker, a Tennessee Republican, sent a letter to regulators after the hearing, asking if the U.S. economy would be threatened by failure of any single financial firm.

The committee also focused on the so-called qualified residential mortgage rule, which six banking regulators including the Fed and FDIC are aiming to complete this year. The regulators drew protests in 2011 when they released a preliminary draft calling for lenders to keep a stake in mortgages with down payments of less than 20 percent and those issued to borrowers spending more than 36 percent of their income on debt.

Industry participants and some lawmakers are pressing for the regulators to align the QRM rule with a measure with a similar name that is also aimed at preventing risky home lending: the qualified mortgage, or QM, rule. That guidance, issued by the consumer bureau in January, offers legal protections to banks that issue loans to borrowers spending no more than 43 percent of their income on debt.

Making the two rules “congruent” should be “on the table,” Tarullo told the Banking Committee today.

“We want to be careful here about the incremental rulemaking not beginning to constrict credit to middle- and lower-middle-income people who might be priced out of the housing market,” he said.