Presented at the Global Shareholder Activism Conference
November 30-December 1, 2017

Dennis M. Kelleher
President and CEO
Better Markets, Inc.[1]
www.bettermarkets.com

As proved by the financial crash of 2008, the consequences of deregulation are catastrophic for investors, consumers, the financial system, the economy and all Americans.  That crash caused the worst economy since the Great Depression of the 1930s, costing the US more than $20 trillion in lost GDP,[2] to say nothing of the horrific political, social and human costs, many of which continue to this day.

The 2008 crash followed decades of bipartisan deregulation[3] and the 2010 Dodd-Frank Wall Street Reform and Consumer Protection Act (Dodd-Frank)[4] was an attempt to re-regulate the financial system, re-installing the basic and minimal safeguards that had been removed. The law had several goals.  First, to eliminate or reduce the systemic threat from the handful of gigantic too-big-too-fail financial firms that pose a unique threat to the country.  Second, to refocus and rebalance the financial system away from the highest risk, most socially unproductive activities and back to supporting the real economy that produces jobs, growth, prosperity and rising standards of living.  Third, to protect investors and consumers, both because they shouldn’t be ripped off and because bubbles and crashes often begin with predatory activities that build into systemic threats over time. 

The law was not perfect.  No law is, but it was the best law that our political system could produce at the time.  Frankly, considering the ferocious opposition from the richest and most politically connected industry in the country — finance in general and Wall Street’s biggest firms in particular — it is amazing that any law at all was enacted. 

Passing the law, however, was just the beginning because it required hundreds of rules, each of which had to be proposed, finalized, implemented, interpreted and enforced by more than seven separate and independent financial regulatory agencies and departments.[5]  Predictably, as soon as the law was passed, the industry moved from attacking the legislation to attacking the rulemaking (and the regulators[6]), often just re-litigating the same arguments that they offered and lost during the legislative phase.  It has been trench warfare at all the agencies ever since; the industry has spared no expense, throwing everything they have at killing or weakening virtually every rule proposed. [7]  Simultaneously, through lobbying, campaign contributions and the revolving door, the industry has used its allies in Congress to attack and underfund[8] the financial regulatory agencies while trying to kill[9] and weaken the law itself.[10]  As is well known, the industry has become significantly emboldened with its new, powerful, albeit unexpected,[11] ally in President Trump.

Nevertheless, as detailed in the academic study “After Dodd-Frank: The Post-Enactment Politics of Financial Reform in the United States,” Better Markets and, on occasion, others were an effective counterweight to this industry onslaught in the rulemaking and litigation that followed enactment of the Dodd-Frank Act: “In particular, small advocacy groups have proven significantly more successful in opposing the financial-services industry than existing theories predict.”[12]

Moreover, the evidence is overwhelming that financial reform is working,[13] that finance is more stable, that the risk of a crash or economic catastrophe is greatly reduced, that banks are highly profitable and increasing their lending, that the economy is steadily growing, and that investor confidence has been restored, as evidence by increased investor participation in the capital markets.[14]  While more still needs to be done, the three primary goals of Dodd-Frank have been largely achieved thus far. 

First, the most dangerous and unreasonable risks in the financial system have been greatly reduced and a financial crash is much less likely due to Dodd-Frank rules which:

• increase capital and liquidity,
• regulate derivatives,
• require living wills and stress tests,
• reduce counterparty exposure,
• protect financial consumers,
• police predatory conduct, and
• prohibit proprietary trading, among other reforms.[15]

Second, to again serve their social purpose, justify their social costs and deserve their taxpayer backing, the rules have rebalanced and refocused the biggest, most dangerous banks to traditional banking activities and away from trading, which is little more than socially useless gambling designed to enrich a few thousand financiers and executives.[16]  Record bank revenues and profits as well as increased lending to the real economy prove that this goal too is being accomplished.[17]

               Third, investor and consumer protections were strengthened and prioritized by many provisions of the law, rules and, most importantly, the creation of the Consumer Financial Protection Bureau (CFPB).  For example, the Securities and Exchange Commission (SEC) was required to create the Office of the Investor Advocate, protect and reward whistleblowers through the Office of the Whistleblower, and significantly empower and enfranchise investors through better access to proxies, executive compensation changes, and other corporate governance reforms.  The law also mandated that the Commodity Futures Trading Commission (CFTC) bring transparency, a level playing field and competition to the derivatives markets.  Most notably, the CFPB has become in a very brief time one of the most successful consumer protection agencies in the history of the country.  In just the few years since it was created and stood up, it has returned almost $12 billion to more than 27 million ripped off Americans.[18]

Nevertheless, since the election of President Trump, the law and rules of financial protection and reform are being eroded every day and are under constant threat of being destroyed altogether.  

Too many focus only on the legislative branch and think that the only or primary way to kill or gut financial reform is to repeal or significantly change Dodd-Frank.  Notwithstanding recent reports of a bipartisan agreement among some members of the Senate Banking Committee to weaken certain Dodd-Frank provisions,[19] changing the law is not the primary way or the easiest way to quickly and effectively deregulate the financial industry.[20]  Installing industry friendly nominees and appointees at the financial regulatory agencies is the most effective way and much quicker than trying to change the law.[21]

President Trump has been doing this virtually from day one and the change over from President Obama’s appointees to President Trump’s appointees is almost complete, with just the FDIC and CFPB[22] still lead by holdovers.[23]   The Treasury department, SEC, CFTC and Office of Comptroller of the Currency (OCC) are all lead by Trump appointees.  This also means that Trump appointees have a working majority – if not supermajority — on the Financial Stability Oversight Council (FSOC).[24]

The implications and negative consequences of this for investors, consumers, financial stability, our economy and all Americans cannot be overstated.  First, rulemaking has stopped virtually entirely at the financial regulatory agencies.  Second, prior rules are under scrutiny for review, revocation or modification.  Third, the implementation and interpretation of existing rules are likely to change dramatically.  Fourth, enforcement will, at best, be refocused while no doubt decreasing overall.

The three reports from the Treasury Department in response to the President’s executive orders to review financial protection rules all point in one direction:  deregulation in all areas at all times, viewing it as an unqualified good regardless of the reason.[25]  We have seen this already at FSOC, which de-designated AIG as a systemically significant nonbank[26] and has signaled that that it is going to de-designate MetLife.[27]  Given that GE was de-designated by the Obama administration in 2016 because it de-risked,[28] that leaves only Prudential Insurance Company as a designated systemically significant nonbank.  It is expected that Prudential too will be de-designated by Trump’s FSOC.[29]  The result will be that not one non-bank will be deemed systemically significant less than ten years after the 2008 crash, when the world witnessed the devastating costs of unregulated systemically significant non-banks.

The ominous implication is that FSOC is simply not going to regulate the shadow banking system, which is what systemically significant non-banks are and which is where the 2008 crash was spawned and silently spread throughout the global financial system.[30]  Making matters worse, this will recreate the two-tiered regulatory system that incentivized regulatory arbitrage before the 2008 crash and resulted in the less-regulated or unregulated shadow banking system ballooning in size relative to the much more highly regulated banking system. 

As if that weren’t bad enough, the regulated banking system is also going to be deregulated.  For example, the recent bipartisan agreement among Senate Banking Committee members is going to significantly reduce the regulation of banks[31] and the new Fed Vice Chairman for Supervision has said he is going to significantly reduce what he sees as the regulatory burden on banks.[32]

The halt in rulemakings is also troubling.  For example, the SEC has “slashed” its rulemaking agenda.[33]  While there are still 33 rules on the agenda in the proposed or final stages, there are still too many vital rules that haven’t been proposed or finalized.  For example, there is still no rule requiring the claw-back of incentive-based compensation from misconduct or prohibitions on executives being compensated when they decide to take egregious risks that hurt consumers, investors and destabilize financial markets.  Directors can still protect themselves from stock losses by hedging their own holdings of company shares, leaving ordinary investors holding the bag.  There are still no effective rules regarding credit rating agencies and there is still no fiduciary duty rule protecting investors.[34]  Many of these rules were mandated by Congress, seemingly leaving no discretion to the SEC, but none are even on the SEC’s agenda.[35] 

The review and possible revocation of rules is also proceeding apace.  The most aggressive actions have been by the Department of Labor, which has been working nonstop to kill the fiduciary duty, or “clients’ best interests,” rule for retirement investors.  That’s the bad news.  The good news is that they have been stymied at every turn because modifying or killing a rule must undergo the same rigorous process for adopting a rule under the Administrative Procedures Act (APA).  This was a revelation for the DOL, as Trump’s Secretary of Labor had to admit in a Wall Street Journal Op-Ed.[36]  However, they are now purporting to follow the APA to kill the rule, but Better Markets and its allies continue to fight them.[37] 

Regarding enforcement, we have already seen dramatic drops at the SEC and CFTC – both of which are the primary cops on the Wall Street beat, charged by Congress and relied on by Americans to protect investors and markets.[38]  No doubt some of this is due to the transition to a new administration and the prior administration closing out cases before leaving.  However, the signs are troubling, including the statements of Trump’s appointees that suggest rulemaking, regulation and enforcement are not going to be priorities.[39]

Of course, the current fight over the leadership, direction and effectiveness of the CFPB is just the beginning of the battle over consumer protection.  This agency is vital for the protection of investors and consumers as well as for financial stability.  While everyone understands the imperative to protect consumers and punish lawbreakers, few understand that predatory conduct is often the springboard for financial instability and crashes.  This is what happened in the years before the 2008 financial crash.  Financial predators ripped off unsuspecting and unprotected mortgage consumers who were victims of egregious fraud.  Federal regulators did nothing and they stopped state regulators from enforcing their state consumer protection laws.  A result was rampant predatory lending, the collapse of underwriting standards, and the creation, packaging, sale and distribution of fraudulent derivatives and structured products, all of which inflated the subprime bubble that crashed the financial system.  The risk of that happening again (albeit in a new and different form) is virtually assured as the Trump administration on behalf of the financial industry is almost certainly going to cripple the CFPB.

The bottom line:  Trump’s deregulation is going to snatch financial reform defeat from the jaws of victory, placing the country at grave risk of another catastrophic financial crash and all the misery that will result from that.  It is as if the Trump administration thinks we can return to the deregulatory and non-regulatory philosophy that prevailed in the early-to-mid 2000s, but avoid another crash like 2008.  This is as irresponsible as someone suggesting that the U.S. should take down half the protections put up around New Orleans after Hurricane Katrina in 2005 because ten years have passed and there hasn’t been another devastating hurricane.  If anyone had the audacity to make such a suggestion, everyone would correctly laugh at the idiocy of that notion.  Yet, the equivalent of that in financial regulation is the prevailing ideology in the Trump White House, the administration more broadly and much of Washington.  The victims, again, will be America’s investors, consumers, workers, families and communities.