Dodd-Frank Law Could Make Next Bank Panic More Likely

The 2008 financial crisis that triggered the worst economic slump in 80 years also led to a massive overhaul of banking regulation – part of which may make the next panic even worse.

The Dodd-Frank act that President Barack Obama signed into law has several provisions that hamper the Federal Reserve’s response to a Wall Street crunch, says Robert Samuelson in the Washington Post.

“In Dodd-Frank, Congress makes it much harder for the Fed to act as lender of last resort,” he writes, citing research from a Harvard economist who says the central bank will be at the mercy of government agencies for approvals on certain kinds of emergency loans to firms teetering toward collapse.

Dodd-Frank remains controversial in the presidential race, with both parties saying they will change the law and bring back some form of the Depression-era Glass-Steagall act that separated commercial banks from riskier brokerages. President Bill Clinton signed a law that repealed Glass-Stegall, allowing for banks to merge their activities.

Samuelson says Dodd-Frank’s requirements for handling a crisis are particularly worrisome.

“The treasury secretary must approve all nonbank loans, there can be no nonbank programs for a single borrower, collateral requirements are toughened and loans must be disclosed within a year,” Samuelson writes. “Some of these may be sensible alone; together, they create an obstacle course for crisis lending.”

A major goal of improving short-term financial stability has been achieved, with major banks being required to hold additional cash reserves to help them weather a panic, Samuelson says. Computerized “stress tests” that try to predict how financial firms will survive an economic calamity indicated that banks are stronger than they were eight years ago, when investment bank Lehman Brothers collapsed.

“But a financial crisis — a panic — is by its very nature a rapidly moving and usually unpredicted event,” Samuelson says. “Unless the crisis is dealt with decisively, it could become a monster that cannot be contained.”

The Democratic platform seeks other financial regulation in addition to Glass-Steagall, while the Republican platform says Dodd-Frank is “crushing small and community banks and other lenders” and calls for abolishing the Consumer Financial Protection Bureau that was created after the last crisis.

“We support reinstating the Glass-Steagall Act of 1933 which prohibits commercial banks from engaging in high-risk investment,” said the platform released by the Republican National Committee.

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