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The Future of Dodd-Frank: What Does the Financial CHOICE Act Mean for the SEC and CFPB?

August 11, 2017

The 2010 Dodd-Frank Wall Street Reform and Consumer Protection Act, more commonly known as Dodd-Frank, is a target for repeal among conservative lawmakers hoping to eliminate a signature legislative achievement of the Obama Administration.

Passed in response to the 2008 financial crisis, Dodd-Frank prevents government-insured banks from engaging in risk-laden investments and imposes strict capital controls that reduce marketplace risk [1]. Opponents of the law argue it places too strong a regulatory burden on community banks which should not be subject to the same capital and liquidity requirements as larger financial institutions. Even Barney Frank, former chairman of the House Financial Services Committee and one of the original authors of the bill, conceded that certain components of the legislation may have overstepped with regard to community banks and local credit unions [2]

With the Obama era over, Republicans now control all three branches of government. Political pundits and market analysts alike expect that Trump’s election signals the end of Dodd Frank. However, Trump offered scant details for a conservative replacement beyond reversing existing regulations, saying “we’re doing a major elimination of the horrendous Dodd-Frank regulations, keeping some obviously, but getting rid of many” [3].

So, what is next for financial regulation under President Trump? 

Image:Goldman Sachs' stock experienced an impressive rally since Trump's election in November, 2016. Cabinet officials like Treasury Secretary Steven Mnuchin and Economic Advisor Gary Cohn hail from the firm. (Pictured: Aug ’16 – Jul ’17)Source: Goldman SachsImage:Goldman Sachs' stock experienced an impressive rally since Trump's election in November, 2016. Cabinet officials like Treasury Secretary Steven Mnuchin and Economic Advisor Gary Cohn hail from the firm. (Pictured: Aug ’16 – Jul ’17)
Source: Goldman Sachs

The Choice Act

On June 8th, 2017, the House of Representatives passed the “Creating Hope and Opportunity for Investors, Consumers and Entrepreneurs,” or the CHOICE Act for short, to replace Dodd-Frank and remove regulations on the financial sector [4]. This conservative counterpart to Dodd-Frank aims to reduce the regulatory burden on the financial services industry to facilitate capital formation and spur business investment. Speaker Paul Ryan expressed his opinion on the bill earlier in June, saying “Ultimately the Financial Choice Act is a jobs bill. It is why we were sent here, to look out for the people who work hard and do the right thing” [5]. While this viewpoint is contentious among certain partisan factions on Capitol Hill, the importance of continued financial legislation is undeniable. Regardless of one’s political affiliation, it is paramount that any proposed bill strengthens capital formation without increasing the risk of another financial collapse.

For the purposes of this article, I will examine the CHOICE Act’s effects on several financial regulators that protect American consumers from dangerous practices like predatory lending, fraud, or excessive fees. In particular, I will focus on the changes to two independent regulators: the Securities and Exchange Commission and the Consumer Financial Protection Bureau. 

The SEC

Despite conservative marketing of the CHOICE Act as a rollback of excessive regulations, the bill will have strong consequences beyond the consumer banking sector. For the Securities and Exchange Commission (SEC), the bill could change the way its enforcement divisions pursue fraudulent investors and police the markets [6]. At first glance, the CHOICE Act appears to give the SEC more weapons to punish fraudulent investors. The bill proposes doubling the limit on statutory penalties while tripling the limit for repeat offenders, permitted the firm’s chief economist certifies that penalties do not overly damage shareholders [7]. This restructuring of the enforcement policy, while intended to isolate individual fraudsters and protect innocent investors, severely diminishes the SEC’s ability to target widespread corruption or structural compliance issues. In the case of the SEC’s historic $550 million settlement with Goldman Sachs in 2010, one of the largest penalties ever for a Wall Street firm, the agency would have likely been forced to reduce or eliminate firm-wide penalties to prevent losses for stockholders [8]. If the CHOICE Act is passed in its current form, the SEC would be constrained to pursue individual employees rather than firms. This policy would likely result in smaller fines and more compliance issues for multi-billion dollar financial institutions.

A separate provision of the Financial CHOICE Act of 2017 would grant defendants of SEC investigations the right to demand trial in federal district court rather than in-house administrative courts [9]. This provision is puzzling in that it raises the burden of proof for SEC investigators and substantially decreases leverage in settlement negotiations. As stated by Professor J. Coffee in testimony to the House Financial Services Committee, “The CHOICE Act adds a variety of new procedural rights and cost/benefit analyses that will hobble the SEC’s enforcement program… the cumulative effect will be devastating” [10]. Administrative courts allow the SEC to expedite tedious judicial proceedings and to reach settlements more quickly in cases of intricate securities law violations. The raised burden of proof and additional legal leverage granted to so-called “bad-actors” in the financial system will allow more defendants to avoid sanctions and evade justice. 

The CFPB

The SEC is not the only financial regulator that would be weakened by several provisions within the CHOICE Act. The Consumer Financial Protection Bureau (CFPB), an independent watchdog for consumer financial products, would lose its status as an independent agency under the proposed bill. In its current form, the CHOICE Act includes a provision authorizing the President to dismiss the CFPB director for any reason and would strip the agency of its Federal Reserve backed funding [11]. The independence of the CFPB is intended to reflect the nonpartisan nature of its work: “to provide a single point of accountability for enforcing federal consumer financial laws and protecting consumers in the financial marketplace.”

The CHOICE Act’s dismantling of the CFPB is puzzling considering the agency’s relative success. As of July 2016, the CFPB has returned nearly $12 billion in assets to American citizens [12]. A significant portion of this sum may be attributed to success with several high-profile cases [13]. In September of 2016, the CFPB fined Wells Fargo $185 million for creating fake accounts to defraud customers through hidden fees and credit charges [14]. Despite this being the largest fine in the organization’s history, the CFPB’s affiliation with high-profile democratic representatives like Senators Elizabeth Warren of Massachusetts and Sherrod Brown of Ohio is proving too tough a political pill to swallow [15]. The sponsor of the CHOICE Act, Republican Representative Hensarling of Texas, spoke of the agency earlier in 2017, saying “The C.F.P.B. has eroded freedom, trampled due process and killed jobs. It must go” [16]

Image: President Obama nominates Richard Corday as the first director of the CFPB alongside Senator Elizabeth Warren, July 2011.Source: Wiki CommonsImage: President Obama nominates Richard Corday as the first director of the CFPB alongside Senator Elizabeth Warren, July 2011.
Source: Wiki Commons Credit: Wiki Commons

Conclusion

The Trump Administration’s eagerness to roll back Dodd-Frank regulations must not be conflated with hampering the SEC and CFPB’s ability to protect everyday Americans. The language within the CHOICE Act should reflect that most Americans outside of Washington can agree that Congress should strengthen the agencies that protect retail investors from fraud. As Speaker Ryan said, Congress is there to “look out for the people who work hard and do the right thing.” The Financial CHOICE Act will weaken the SEC and CFPB’s ability to fulfill that mission.

Student Blog Disclaimer
  • The views expressed on the Student Blog are the author’s opinions and don’t necessarily represent the Penn Wharton Public Policy Initiative’s strategies, recommendations, or opinions.

References

  [1] Geoff Bennet, “House Passes Bill Aimed at Reversing Dodd-Frank Financial Regulations,” NPR, June 8, 2017. 

http://www.npr.org/2017/06/08/532036374/house-passes-bill-aimed-at-reversing-dodd-frank-financial-regulations.

  [2] Harper Neidig, “Barney Frank admits ‘mistake’ in Dodd-Frank,” The Hill, November 20th, 2016.

http://thehill.com/policy/finance/banking-financial-institutions/306906-barney-frank-admits-mistake-in-dodd-frank

  [3] Jeff Mason and Sarah N. Lynch, “Trump’s message to bankers: Wall Street reform rules may be eliminated,” Reuters, April 11th, 2017.

http://www.reuters.com/article/us-usa-trump-business-idUSKBN17D1ZD

  [4] Alan Rappeport, “Bill to Erase some Dodd-Frank Banking Rules Passes in House,” New York Times (Online), June 8, 2017. 

https://www.nytimes.com/2017/06/08/business/dealbook/house-financial-regulations-dodd-frank.html.

  [5] Alan Rappeport, “Bill to Erase some Dodd-Frank Banking Rules Passes in House,” New York Times (Online), June 8, 2017. 

https://www.nytimes.com/2017/06/08/business/dealbook/house-financial-regulations-dodd-frank.html.

  [6] Peter J. Henning, “A Whack at Dodd-Frank could Hamstring the S.E.C.,” New York Times (Online), April 24, 2017.

https://www.nytimes.com/2017/04/24/business/dealbook/a-whack-at-dodd-frank-could-hamstring-the-sec.html.

  [7] Alison Frankel, “House Financial Choice Act is a Boon for SEC Targets,” Reuters, May 9, 2017. 

http://www.reuters.com/article/us-otc-sec-idUSKBN1852CY.

  [8] Sewell Chan and Louise Story, “S.E.C. Settling its Complaints with Goldman.” New York Times (1923-Current File), July 16, 2010.

http://www.nytimes.com/2010/07/16/business/16goldman.html.

   [9] Alison Frankel, “House Financial Choice Act is a Boon for SEC Targets,” Reuters, May 9, 2017. 

http://www.reuters.com/article/us-otc-sec-idUSKBN1852CY.

  [10]”Professor John Coffee Testifies before House Financial Services Committee,” Targeted News Service, May 1, 2017. 

https://financialservices.house.gov/uploadedfiles/hhrg-115-ba00-wstate-jcoffee-20170428.pdf.

  [11]Alan Rappeport, “Consumer Watchdog Faces Attack by House Republicans, Memo Reveals,” New York Times, February 10, 2017.

https://www.nytimes.com/2017/02/09/us/politics/consumer-financial-protection-bureau-republicans.html.

  [12]Consumer Financial Protection Bureau, “Factsheet 2016,” consumerfinance.gov, July, 2016. 

http://files.consumerfinance.gov/f/documents/07132016_cfpb_SEFL_anniversary_factsheet.pdf

  [13] Alan Rappeport, “Consumer Watchdog Faces Attack by House Republicans, Memo Reveals,” New York Times, February 10, 2017.

https://www.nytimes.com/2017/02/09/us/politics/consumer-financial-protection-bureau-republicans.html.

  [14] Emily Glazer, “Wells Fargo to Pay $185 Million Fine over Account Openings,” The Wall Street Journal Eastern Edition, September 9, 2016.

https://www.wsj.com/articles/wells-fargo-to-pay-185-million-fine-over-account-openings-1473352548.

  [15] Michael Corkery, “Wells Fargo Fined $185 Million for Fraudulently Opening Accounts,” New York Times (Online), September 8, 2016. 

https://www.nytimes.com/2016/09/09/business/dealbook/wells-fargo-fined-for-years-of-harm-to-customers.html.

  [16] Alan Rappeport, “Consumer Watchdog Faces Attack by House Republicans, Memo Reveals,” New York Times, February 10, 2017.

https://www.nytimes.com/2017/02/09/us/politics/consumer-financial-protection-bureau-republicans.html.

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