Damage limitation required

Despite Obama’s victory, US financial services sector may yet avoid death by over-regulation


Raphael Grunfeld, partner, Carter Ledyard & Milburn

The worst fears of the financial services industry were realised at the moment Obama was re-elected as president. This second-term victory came about despite massive opposition from the US financial services industry.

Obama’s re-election nails down the changes of the first term that were passed into law. It was accomplished by turning out the votes of Latinos, African-Americans, women and young people. White males, a decisive Republican voting block in past elections, were outnumbered by a growing minority of underprivileged voters, who emerged as a majority in this election and whom the Republicans had largely ignored.

One of these laws is the Dodd-Frank Wall Street Reform and Consumer Protection Act, the most comprehensive regulation of the financial services industry since the Great Depression. Any hope of repealing Dodd-Frank, which has already decimated bank profits, died with Romney’s concession speech.

However, all is not lost for the industry. The devil is in the detail of the 243 rules that government agencies must promulgate to implement Dodd-Frank. Some of these are already in place, including the rules requiring managers of most private funds to register with the Securities and Exchange Commission and, in some cases, also with the Commodity Futures Trading Commission.

Also finalised are rules obliging the managers of private funds with assets of at least $150m (£95m) to disclose sensitive information.

The rules that redefine an accredited investor in private placements are also in place, and many more are yet to come.

The spear pointed at the heart of the industry’s profits is the proposed Volcker rule that prohibits banks from buying and selling stocks and derivatives with their own money, an activity known as proprietary trading.

Applied too strictly, the Volcker rule would prohibit banks from engaging in underwriting, market-making and hedging activities. The drafting of rules that prohibit proprietary trading, but do not choke the supply of capital to the markets, is a challenge.

The good news for the industry is that now that the fear of the repeal of the Dodd-Frank Act has been removed, the regulators no longer need to race to implement it. This leaves more time for a compromise with the financial services industry.

With the US as deeply divided after the election as it was before, the first test will be to reach a consensus on raising taxes and cutting government expenditure. If no such consensus can be reached by year-end, default mandatory legislation, referred to as the ‘fiscal cliff’, will apply automatically, raising taxes, cutting expenditure across the board and tipping the recovering US economy back into recession.

It is to be hoped that the winners and losers in this election will be able to eat enough humble pie to stop them from shoving the country over that cliff.