Congress Debates Enforcement of Costly Volcker Rule

Republicans voiced their opposition to a signature aspect of the President Barack Obama’s financial reform today in Congress, saying it has become too costly and complex to enforce.

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The so-called “Volcker Rule,” named after former Federal Reserve Chairman Paul Volcker, would restrict banks from trading for their own accounts  in a move meant to prevent them from making risky bets with deposits insured by the government.

Republican lawmakers argue that the rule won’t just hurt the financial industry, but the economy as a whole. Representative Spencer Bachus (R-Ala.) warned that Wall Street jobs could migrate to Canada in order to avoid new restrictions when the rules go into effect this July.

The Volcker Rule asks that the government distinguish between banned “proprietary trading” and legitimate “market making” trades that smooths out the process of buying and selling investments, but so far lawmakers and regulators alike have had difficulty in creating the criteria upon which the two types of trading will be judged.

Federal regulators issued a 300-page proposal for enforcing the rule that contained more than 1,300 questions, revealing the rule’s deficiencies, in terms of clarity.

“Making such distinctions will be difficult, if not impossible,” said Bachus, chairman of the joint House Financial Services sub-committee.

Representative Barney Frank (D-Mass.) countered that the proposal drafted by the Federal Reserve and the Securities and Exchange Commission tries to address worries by banks that the Volcker Rule might penalize market making trades and cause liquidity to dry up.

“You are guilty of trying to accommodate some of the concerns that financial institutions have,” concluded Frank, a namesake of the 2010 Dodd-Frank financial reform that features the rule, while defenders of the rule, though acknowledging its faults, are more concerned with the impact the financial institutions could have on the economy without the proposed regulations.

Representative Carolyn Maloney (D-NY) asked whether the government had access to the data needed to identify whether trades were appropriate or illegal. The panel in turn acknowledged that, for the moment, the government is flying blind, but Daniel Tarullo, a Federal Reserve governor, said that, “When we start getting that information, we will be in substantially better positions to draw the kind of distinctions that you are talking about.”

Tarullo acknowledged that, if regulators don’t get the rule right, it could reduce liquidity in some markets. “The distinction between prohibited proprietary trading and permissible market making can be difficult to draw, because these activities share several important characteristics,” said Tarullo, but that distinction is important, as market makers play a key role “in facilitating liquid markets in securities, derivatives, and other assets.”

The Federal Reserve, Federal Deposit Insurance Corp., Office of the Comptroller of the Currency, and the Securities and Exchange Commission proposed a rule last fall and will be collecting comments on that proposal until February 13. The Commodity Futures Trading Commission approved its own version of the Volcker Rule last week.

The law, which would allow for a two-year transition period in which banks could unwind trades prohibited by the rule and holdings of investment firms that conduct prohibited proprietary trades, is scheduled to go into effect in this coming July.

Representative Scott Garrett (R-N.J.) has asked regulators to consider moving back the July deadline for formulating a final rule — a decision that would have to be made jointly by the agencies and would depend on the kinds of comments they receive and the extent of the proposed changes, said Tarullo.

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To contact the reporter on this story: Emily Knapp at staff.writers@wallstcheatsheet.com

To contact the editor responsible for this story: Damien Hoffman at editors@wallstcheatsheet.com