Too big not to fail

The Economist has a great article, "Too big not to fail" about the Dodd-Frank regulation. Readers of this blog will know I'm no big fan of Dodd-Frank, for example an article in Regulation, collected opeds, and collected blog posts on reform. I've made most of these points before. But to hear it from the liberal-leaning Economist, with very detailed documentation, is good news.

A few delicious quotes:

The scope and structure of Dodd-Frank are fundamentally different to those of its precursor laws, notes Jonathan Macey of Yale Law School: “Laws classically provide people with rules. Dodd-Frank is not directed at people. It is an outline directed at bureaucrats and it instructs them to make still more regulations and to create more bureaucracies.” ...

Take the transformation of 11 pages of Dodd-Frank into the so-called “Volcker rule”, .... In November four of the five federal agencies charged with enacting this rule jointly put forward a 298-page proposal which is, in the words of a banker publicly supportive of Dodd-Frank, “unintelligible any way you read it”.  It includes 383 explicit questions for firms which, if read closely, break down into 1,420 subquestions, according to Davis Polk, a law firm. 

And each subquestion presages another rule in the final version.

This is an important point. Most laws are laws. Most of the actual pages of Dodd-Frank are just directives for agencies to write the actual rules.

More importantly, it's not just explicit rules: 

But the really big issue ...Officials are being given the power to regulate more intrusively and to make arbitrary or capricious rulings. The lack of clarity which follows from the sheer complexity of the scheme will sometimes, perhaps often, provide cover for such capriciousness.

For example, the new CFPB will have latitude to determine what type of financial products can be provided to which consumers and at what cost, as well as the right to pursue institutions for acting in an “abusive” fashion (a term with no legal definition). Requirements for “living wills” that encompass hypothetical business plans have to be pored over by regulators; “stress tests” insert government assumptions deep into the decisions banks make about their capital. ... the befuddling form the act gives such ideas unintentionally opens a path to much more state interference.

That's putting it mildly.  Dodd-Frank is really not about rules at all. It just gives regulators power to decide what you do and how you do it. And it's going to be awfully hard for even the best intentioned regulator not to slide in to protecting from competition the business he's regulating (they are "systemically important" after all), or merging goals ("Nice bank you got there. If you were foreclosing a bit slower we sure could help a bit on consumer financial protection approval of that new credit card.") Or, as the Economist puts it,

Loans that might not fit into a category favoured by regulators are being trimmed or withdrawn.

..some well established banks consider themselves better able to handle the costs than smaller or newer ones, particularly those that don’t have cushy relationships with regulators. 

Mission creep:

....a provision in Dodd-Frank concerning the extraction of minerals from in and around the Congo will mean that they [manfuacturers] will have to begin filing information on their entire supply chain to the SEC. This is officially estimated to affect 1,000-5,000 companies at a cost of $71m. The US Chamber of Commerce thinks it will affect hundreds of thousands. The National Association of Manufacturers estimates it will cost $9 billion-16 billion. Conflict minerals are a disturbing issue. They were not one of the causes of the global financial crisis....

Even Dodd-Frank’s creators can bring no similar clarity to its intentions. In 2009 Mr Frank attempted to frame the new law’s goals under four heads: securitisation, compensation, liquidation and systemic risk. But in a single speech his ambitions overflowed to consumer protection and the reform of ratings agencies, too. Ambition is often welcome; but in this case it is leaving the roots of the financial crisis under-addressed—and more or less everything else in finance overwhelmed.

This point really nails the fundamental flaw of Dodd-Frank. It never really thought about what the most important core problems were, and how to fix them. Instead, it basically thinks we didn't have "enough" regulation, so proceeds to "regulate" more, and to regulate anything vaguely associated with "finance."  But, not knowing what went wrong really, it's approach is just to deputize appointed officials great power to write rules, or, more basically, direct affairs in real time. 

Regulation is not "more" or "less" to be poured about. It is "smarter" or "dumber," solving clearly understood market failures with transparent rules, or simply sending busybodies around to muck things up.

We need "smarter." Soon.