The Wall Street Reform and Consumer Protection Act (Dodd-Frank) and Basel III have been helping retain and even create jobs in the United States and abroad. Yes, you read this sentence correctly. In the interest of full disclosure, amongst other capital markets topics, I am a consultant and trainer on Dodd-Frank and Basel III and their impact on financial institutions, corporations, and bank regulators.
Whilst Dodd-Frank has at its central tenet that the law should help prevent systemic risk started by financial institutions, the law and its rules, which are still being written, impact not only banks and other financial institutions, but also every type of corporation that transacts financial derivatives. Hence, all of these market participants have had or will have to learn what the components of Dodd-Frank are and the law’s impact on their risk management strategies, systems, and implementation processes. Every financial institution and company in the US and even many abroad will either have to hire staff internally to work on various Dodd-Frank aspects or will need to hire the services of compliance professionals, auditors, lawyers, IT personnel, consultants, and financial regulator trainers.
Do Financial Regulations Cause Unemployment?
Let’s begin with a small detail; financial deregulation played a significant role in the 2008 financial crisis which led to a loss of 8 million jobs and a loss of about $12.8 trillion dollars when you add up bailouts, stimulus plans, and unemployment benefits. So as imperfect as Dodd-Frank may be, if the law can help create a healthier financial sector and hence strengthen the economy, that in itself will go a long way to help stabilize job losses and eventually help job growth. Time and again we have seen that boom and busts are terrible for an economy not to mention jobs specifically.
The Office of Management and Budget (OMB) has released several studies in the last two years pointing to deregulation as a cause of job losses. More recently, the Bureau of Labor Statistics stated that “only three-tenths of 1 percent of people who lost their jobs were let go principally because of government regulation or intervention. On the other hand, a quarter of them were laid off because of lack of business.” In a Small Business Majority study, only 13 percent of small-business owners cited regulation as their biggest concern; 25% said economic uncertainty was their greatest challenge.
In the financial sector, quite a number of market participants have argued that both Dodd-Frank and Basel III will lead to job losses either because compliance costs will be onerous, or in the case of banks that as well, lending to certain risky counterparties will lead to higher capital requirements which in turn will lead to higher priced loans. Let’s look at the first claim, the effect of compliance costs. What will Dodd-Frank cost and can financial companies and other types of companies afford these costs? Given that the rules are still being written and even those that have been written have not all necessarily been implemented, coming up with an exact cost is difficult. Standard and Poor’s in August 2012 stated that the majority of compliance costs will be borne by the largest US banks but that for the moment it would not impact Standard and Poor’s ratings of those banks. A recent study by Platt’s found that 50% of energy companies surveyed had not spent a single penny yet on getting ready for Dodd-Frank. According to Harry Terris of American Banker, evidence that there has been a boom in compliance costs is sketchy at best.
Part of the problem is also attitude. Most people writing about Dodd-Frank compliance and implementation costs usually mention how they may reduce earnings rather than investigating how these costs might keep a company healthier and better managed. Compliance costs should be considered a business expense that is necessary to good risk management and not be seen as buzzing mosquito annoyingly flying around one’s ears.
As well, little evidence has been found to support the latter financial institutions’ claim that higher capital loans will lead to much higher lending rates. Current and proposed capital requirements are actually low in comparison to other periods in history as evidence by economists Berger, Benink, Bentson, Schularick, and Taylor. If you look at the equity as a percentage of assets held by US banks, it was higher than 35% in 1870 and decreased to below 15% going into 1920. Since World War II it has been in the range of 5 -7% despite the fact that banks have been getting larger, more internationally interconnected, and have been transacting increasingly more sophisticated securities and derivatives.
Note: Graph appeared in “Strength in Numbers, The Economist, 10 November 2012
Also, an IMF study, “Estimating the Cost of Financial Regulation,” by IMF economist André Oliveira Santos and Brookings Institute’s Douglas Elliott, found that the rise in regulatory costs would increase average bank lending rates in the long term by 28 basis points in the US, 17 basis points in Europe, and 8 basis points in Japan. “By comparison, the smallest increment by which major central banks adjust their short-term policy rates is 25 bps, which tends to have a small effect on economic growth,’ stated Messrs. Santos and Elliott. Whilst lending rates might go up slightly, the study’s authors found that “Banks appear to have the ability to adapt to the regulatory changes without actions that would harm the wider economy.” Also, in order to lend more, banks can lower bonus payments, share buy backs, and dividend payouts; moreover they can reduce the risky securities and derivatives they transact which lowers capital that needs to held and hence can be lent out.
Dodd-Frank and Jobs
Immediately after the US Presidential election, CompliancEX’s Jack Kelly and Beth Connolly wrote an editorial basically saying that irrespective of one’s political ideology, now that President Obama has been re-elected Dodd-Frank is here to stay. Consequently, financial institutions will have to put compliance professionals at the center of their strategies. Heaven forbid, financial institutions’ management might even have to pay them more and even treat these professionals with respect.
It is not only compliance officers who will have to work with Dodd-Frank implementation–so will internal and external auditors, lawyers, consultants, financial trainers, not to mention IT professionals. Quite possibly, the implementation of Dodd-Frank is the Y2K of this decade.
Due to Dodd-Frank’s requirements that many Over-the-Counter (OTC) derivatives have to go through clearing houses, new exchanges and swap execution facilities are springing up and existing ones are having to beef up their technological and human capacity. Both CMEGroup and ICE, for example, are seeing increasing volumes in futures and futures-like products. These trends all point to job creation, since more professionals will be needed in the front, back, and middle offices of exchanges, clearing houses, and swap execution facilities. The updates in systems needed, will also add to the need for increased IT professionals.
Another category benefiting from Dodd-Frank is the legal profession. Much of the legal profession was decimated by the 2008 financial crisis due to the crisis’ effect on law firms’ major clients such as banks and corporations. There is a certain irony that now most law firms have financial regulatory practices dedicated to writing briefs explaining the impact of Basel III and Dodd-Frank on the very banks that helped put many lawyers on the unemployment line. Now the banks hire the law firms’ financial regulatory practices to lobby again financial regulations and to interpret Dodd-Frank; somehow many of the firms’ reports end up saying that banks will be negatively impacted by financial regulation.
All financial regulators, from the CFTC and SEC to bank regulators, have to increase staff in order to conduct their added rule writing responsibilities. However, the Republican-controlled House, together with armies of lobbyists, has certainly focused on finding ways to slow down Dodd-Frank rule writing and continues to try to find ways to not fund financial regulators sufficiently. It has frozen the SEC’s budget and has repeatedly called for the CFTC’s budget to be cut despite the fact that both agencies now have many more responsibilities due to Dodd-Frank. Additionally, existing and any new staff has to learn about Dodd-Frank and whether companies and financial institutions are implementing it correctly, something that they cannot do without training funds.
If any of you who kindly read this opinion piece have good studies with numbers that show how and where Dodd-Frank is causing job losses, kindly e-mail them to me. My inbox awaits them. Even though Senator Dodd has left the Senate and Congressperson Frank is also leaving in 2013, I am sure they would appreciate a Happy Thanksgiving card, even an e-thank you one. And in the spirit of a bipartisan and happy Thanksgiving, try not to send one with a picture of a turkey. Happy Thanksgiving one and all!
Sources and References
Alper, Alexandra, “Analysis: Dodd-Frank, the Jobs bill no One Talks About,” ThomsonReuters, 27 October 2011.
Benink, H.A. and Benston, George J. “The Future of Banking Regulation in Developed Countries: Lessons from and for Europe” Financial Markets, Institutions & Instruments, Vol. 14, No. 5, pp. 289-328.
Callahan, David. “Starving the Watchdog: How Budget Cuts Undermine Financial Regulations,” Policy Shop, November 2012.
Kelly, Jack and Connolly, Beth, “Welcome to the Senate, Elizabeth Warren,” CompliancEX. 7 November 2012.
Santos, Andrè Oliveira and Elliott, Doug. “Estimating the Cost of Financial Regulation,” IMF. 11 September 2012
Shapiro, Isaac and Irons, John. “Regulation, Employment and the Economy: Fears of Job Losses are Overblown,” EPI Briefing Paper, Economics Policy Institute, 11 April 2011.
Schularick, Mortiz and Taylor Alan M. “Credit Booms Gone Bust: Monetary Policy, Leverage Cycles, and Financial Crises, 1870-2008“, American Economic Review, 102(2): 1029-61 2012.
Terris, Harry. Evidence Sketchy for Dodd-Frank Boom in Compliance Costs, American Banker 21 June 2012
“Strength in Numbers,” The Economist, 10 November 2012
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Mayra Rodríguez Valladares is Managing Principal at MRV Associates, a New York based capital markets and financial regulatory consulting and training firm. The firm has had USAID, FirstInitiative, and US Treasury projects with financial regulators in over 20 countries. In the US, projects have been with major investment and commercial banks, insurance companies, and regulators such as the Federal Reserve Bank of New York, the Commodities Futures Trade Commission, the FFIEC and the SEC. She has consulted and trained on the Basel Accords for almost a decade and Dodd-Frank since before it was passed. Mayra conducts financial training in English, Spanish, and Russian. She teaches at the New York Institute of Finance and has taught at New York University and The Fashion Institute of Technology.