Volcker Rule to leave silent majority banks untouched

"Bart Naylor" "Financial policy reform"

There are 7,181 federally insured banks in the United States. After a new rule is implemented to stop banks from making risky trades, the business activities of 7,175 of these banks will remain essentially unchanged.

The Volcker Rule, among the most controversial aspects of the Dodd-Frank Wall Street Reform and Consumer Protection Act, will prohibit federally insured banks from engaging in proprietary trading, aka “casino gambling,” which involves speculation through short-term trades in stocks, derivatives and other securities.

The financial crash, borne of these risky Wall Street banking practices, cost the economy about $12 trillion, give or take. In an attempt to ensure Main Street not be put on the hook for more of Wall Street’s risky business, Congress called for regulation of proprietary trading, aka the Volcker Rule, informally named after former Federal Reserve Chairman Paul Volcker.   But Wall Street lobbyists have succeeded in elevating concerns over the relatively minuscule costs of implementing the Volcker Rule to a paramount position in the debate over how regulations should be crafted to implement it.

The Volcker Rule will prohibit federally insured banks from engaging in proprietary trading or owning hedge funds of more than de minimis size. The rule prevents a fraction of 1 percent of banks from putting our financial system—and, ultimately, our economy—at risk. In principle, the Volcker Rule aims to protect banking’s core function of aggregating savings so that savings can be loaned to consumers, homebuyers and businesses. Federal deposit insurance protects the savers, which encourages them to accept lower returns (in this case, in the form of interest rates) than they would expect for higher-risk investments. Banks, in turn, are expected to pass on savings from their reduced cost of capital to their borrowers. The benefits that accrue from reduced costs of capital justify expectations that the banks abstain from high-risk activities.