On July 21, 2010, the Dodd-Frank Wall Street Reform and Consumer Protection Act was signed into law. Dodd-Frank, which spans more than 2,300 pages and created more than 400 new rules and mandates, established the financial regulatory framework that sets the guideposts within which banks of all sizes, particularly large financial institutions, operate.
Ten years after the massive financial regulatory overhaul, the post-crisis regulatory framework remains intact. The strength and resilience of the American banking system today is the result of the substantial efforts and investment by policymakers, regulators and financial institutions across the country to achieve the shared goal of financial stability.
The Lasting Legacy of the Dodd-Frank Act
Dodd-Frank established a number of important measures to promote financial stability. Some of the most impactful include measures to promote resolvability, limit proprietary trading and create central clearing for certain financial instruments.
Dodd-Frank led to significant enhancements to the resolvability of financial institutions, improving stability within the U.S. financial system. Large banks now engage in an ongoing resolution planning process. Through the regular submission to the Federal Reserve and the FDIC of resolution plans, also known as living wills, large banks explain how they would undergo an orderly resolution in bankruptcy.As of the most recent review in December 2019, Forum members’ resolution plans were without deficiencies.
The resolution plan process has led banks to decrease their organizational complexity. As seen in Figure 1, total subsidiaries at U.S. GSIBs have declined by roughly 40% since 2009.
Dodd-Frank also created a backup resolution regime through the requirement of convertible long-term debt that is designed to facilitate the resolution of a large financial firm if bankruptcy were deemed not viable. The creation of this backup resolution regime means a large financial institution would be allowed to fail without resulting in significant spillover costs to the rest of the economy. As seen in Figure 2, Forum members – alone among U.S. banks – have issued in excess of $845 billion in long-term debt to support the backup resolution authority, more than doubling their loss-absorbing capacity since 2008.
There is broad recognition that, taken together, these two parts of Dodd-Frank help ensure that all large banks, including Forum members, are no longer too big to fail.
Dodd-Frank created the Volcker Rule to ban banks from proprietary trading and limit investments in and relationships with certain funds. Under the regulation, proprietary trading occurs when a bank trades in the short term for its own benefit without facilitating customer activities or hedging its own risks.
To this day, the original intent of the rule has been preserved, with only minor modifications made to streamline the rule and reduce complexity. For example, in 2019 federal regulators finalized targeted revisions to simplify compliance requirements with the Volcker Rule and provide much-needed clarity. Last month, federal regulators took steps to simplify, tailor, and clarify the covered funds provisions included in Volcker while still preserving the intent of the rule. These updates helped to address longstanding, bipartisan concerns that the Volcker Rule was too complicated and too difficult to supervise, making it more difficult for banks to serve the needs of savers and investors.
Derivatives Markets Reforms
The structure and regulation of the derivatives market importantly have been transformed in the past decade. Two key changes are the substantial increase in central clearing of over-the-counter (OTC) derivatives and the mandated exchange of initial and variation margin on all OTC derivatives that are not centrally cleared. Central clearing is an important reform because clearing brings transparency and strict risk-management standards to derivative trading. As a result, the rise in central clearing has measurably reduced the scope for systemic risk to emanate from derivative markets. As shown in Figure 3, the substantial amounts of initial margin that are now being collected on both centrally cleared and non-centrally cleared derivatives have resulted in a materially safer and better managed derivatives market.
Forum Members are Safe, Sound & Supporting the Economy
In addition to the reforms put in place by the Dodd-Frank Act, other advances, such as enhanced capital requirements and heightened supervision, have laid a solid foundation for the safety of the nation’s largest banks in the past decade.
These changes have led to a significant reduction in the expectation that large banks would receive taxpayer support if faced with severe financial distress. The Federal Reserve in its Supervision and Regulation report in May said against the backdrop of the pandemic, indicators in financial markets pointed to “the belief by investors that banks are more resilient and better positioned today than during the 2008 financial crisis.”
Building on their position of strength, Forum members have been a tremendous source of support this year for consumers, customers and businesses weathering the economic impact of a global health pandemic. As seen in Figure 4, Forum members have greatly increased lending — during the first quarter they increased lending to businesses of all sizes by more than 15 percent from the prior quarter, an unprecedented increase.2
Forum members are supporting small business as seen by their participation in the Paycheck Protection Program (PPP). As of June 10, Forum banks made or approved more than 773,000 PPP loans to small businesses, totaling nearly $70 billion. More than half of the loans by Forum members support small businesses with four employees or less and nearly 80 percent are for less than $100,000.
Forum firms are also supporting the economy by providing safe, secure places for businesses and consumers to deposit their money. Shown by Table 1, in the first quarter, total deposits at Forum institutions rose more than 13 percent, an $818 billion increase, providing an important service to individuals and businesses in these uncertain times.
The Dodd-Frank Act laid the foundation for significant reforms in the financial regulatory system and 10 years later remains intact. Building on the strength developed over the past decade, members of the Financial Services Forum have been well-positioned to support customers, businesses and the economy since the onset of the COVID-19 pandemic. The nation’s largest banks are committed to being a source of strength for the economy in the months and years ahead, while preserving the hard-won gains in the strength and resiliency of the financial sector.