March/ April 2013 He Who Makes the Rules

Barack Obama’s biggest second-term challenge isn’t guns or immigration. It’s saving his biggest first-term achievements, like the Dodd-Frank law, from being dismembered by lobbyists and conservative jurists in the shadowy, Byzantine “rule-making” process.

By Haley Sweetland Edwards

This is one of the main reasons the Volcker Rule has been such a mess. It requires that regulators determine what’s proprietary trading (when banks trade with their capital base for their own profit) and what’s market making (the backbone of a bank’s basic business model). A Credit Suisse lobbyist claimed recently that the metrics in the Volcker Rule were flawed since, in a test run, the bank found that proprietary trading and market making were indistinguishable. Credit Suisse’s claim will go into the rule makers’ record, which, in turn, can be used as evidence in court, should implementing agencies be sued. In that situation, rule makers and reformers are left without a card to play. “We can’t dispute [their claim], because Credit Suisse owns the data and won’t share it publicly,” Naylor said.

While Dodd-Frank provides rule makers with access to a variety of new information sources—the new Office of Financial Research, the SEC’s Consolidated Audit Trail, the CFTC’s Swaps Report—none of these tools do enough yet to keep them ahead of the financial industry’s constantly morphing business model, which changes every time an analyst invents a new product or a new way to trade it. “The regulators need to be able to pool all of this disparate information together into a complete picture of the financial system, which I’m not sure if they have the funding and coordination to do,” said Marcus Stanley, the policy director at Americans for Financial Reform, a coalition of consumer, labor, small business, and public interest groups. If a shape shifter shows up as a mouse, building a mouse trap will only get you so far.

It is in some ways a Sisyphean task. Here you have a group of rule makers—lawyers, economists, analysts, and specialists—sitting around a table. On one side, they’ve got the language of Dodd-Frank, which requires them, by congressional mandate, to effectively regulate new, never-before-regulated products in never-before-regulated markets that change by the month. On the other side, they’ve got a pile of reports, nine out of ten of which were provided by the same industry they’re trying to rein in. Meanwhile, industry lobbyists and lawyers are crowding into their conference rooms on a nearly daily basis, flooding their in-boxes with comment letters, and telling them that if they do something wrong, they’ll be personally responsible for squelching financial innovation and destroying the economy. “They’re scared to death,” said Naylor of Public Citizen, who compares the effect the financial industry has on rule makers to Stockholm syndrome. “No one wants to be the one who writes the rule that screws up the entire financial system.”

Wall Street is well aware of rule makers’ human vulnerabilities. Last year, when the SEC was writing rules governing money markets, the U.S. Chamber of Commerce, one of the financial industry’s staunchest allies, launched a public relations campaign in D.C.’s Union Station, which abuts the SEC building. They papered the place with dozens of bright purple and orange posters, billboards, and backlit dioramas on the train platforms and above the fare machines, asserting that money markets are strong: “Why risk changing them now?” It is not coincidental that a good number of rule makers began and ended their daily commute beneath those very banners. “We certainly want to get the attention of those who are capable of giving us the answers,” David Hirschmann, a Chamber of Commerce official, told Bloomberg at the time. One imagines him stifling a smirk.

Given the many whirling hatchets in this stage in the regulatory gauntlet, it’s a miracle any rules have emerged in the last couple years reasonably unscathed. But they have. When that happens, industry can appeal to the second stage in the gauntlet: litigation.

The Gauntlet, Stage 2: Cost-benefit analysis and a conservative court

On a sweltering summer day in 2011, the U.S. Court of Appeals for the D.C. Circuit—the de facto second most powerful court in the land, and the body that oversees the agencies—sent shockwaves through the regulatory apparatus.

In a now-infamous case, Business Roundtable vs. SEC, a three-judge panel decided in favor of two of the financial industry’s biggest backers and overturned the SEC’s so-called “proxy access” rule. The rule would have made it easier for shareholders to elect their own candidates to corporate boards, allowing investors to put the brakes on out-of-control CEO pay. In the past decade, it has attempted to establish a proxy access rule on three separate occasions, but each time it was cowed into submission by industry lobbyists claiming that the rule would destroy corporate growth. In 2011, emboldened by the language of Dodd-Frank, which explicitly authorizes the SEC to establish a proxy access rule, the agency tried once again.

Almost immediately after the final rule was published, the Business Roundtable and the U.S. Chamber of Commerce sued the SEC on the grounds that the agency’s cost-benefit analysis was inadequate. The judges agreed, marking the first time that the court had overturned a rule explicitly authorized by Dodd-Frank. But that’s not the part that sent shockwaves through the regulatory apparatus. The D.C. Circuit has overturned dozens of regulations over the years, including six SEC rules in the previous seven years, for lots of reasons, including inadequate cost-benefit analyses.

What sent the shockwaves was that this case didn’t seem to have anything to do with cost-benefit analysis at all. In the vitriolic decision, the panel of judges, all of whom were appointed by Republican presidents, lamented that due to “unutterably mindless” reasoning, the SEC had “failed once again” in its cost-benefit analysis. But the court never cited how exactly the agency’s twenty-three-page economic impact report could have done better. It simply appeared to disagree with the agency’s policy choice—and that, apparently, was grounds enough to overturn the rule.

“It was a shot across the bow,” said Michael Greenberger, a former regulator and professor at the University of Maryland Carey School of Law. The decision set a radical new precedent that would affect not only the SEC but all the independent agencies tasked with implementing Dodd-Frank, he said. It would also raise a powerful question: Should specific policy judgments be made by the agencies or the courts? “It upset the balance of the power,” Greenberger said.

Part of the issue here is that the D.C. Circuit is packed high with conservative judges. Eight out of eleven on that bench were appointed by Republicans; despite four vacancies, Obama’s nominations have been stymied consistently by Republicans in Congress. The three-judge panel that decided Business Roundtable included two Reagan appointees, Judge Douglas Ginsburg and Chief Judge David Sentelle, a Jesse Helms protégé. (That’s the same Sentelle, by the way, who headed the panel that fired Whitewater independent counsel Robert Fiske, a moderate Republican, and replaced him with Kenneth Starr.) The third judge was George W. Bush appointee and consummate Ayn Randian Janice Rogers Brown. All three have made a bit of a name for themselves over the years as conservative activists, unafraid to mold precedent to fit their ideological ends. Their decision in Business Roundtable didn’t break that mold.

Haley Sweetland Edwards is an editor of the Washington Monthly.


  • Anonymous on March 04, 2013 1:07 AM:

    holy crap.
    well, Democracy was a nice idea. Hopefully some other country will take the ball and run with it but it seems pretty much like a dead experiment here.

  • Rabbler on March 04, 2013 11:48 PM:

    Isn't this what happens when one's greatest accomplishments are vaguely written to enable passage? Of course that couldn't be Obama's fault even though they are his greatest accomplishments. 9 pages of excuses. Is it even possible for Obama to fail?

  • Nate on March 05, 2013 7:57 PM:

    Terrific article, thanks Ms. Edwards.

  • ctnyc on March 05, 2013 10:20 PM:

    Rabbler, most congressional bills are and always have been written somewhat vaguely because they have to be or nothing would ever be passed. The expertise and information that the agencies that must write the rules possess far outweighs the kind of expertise than individual members of Congress have about most issues, so Congress leaves it up to the agencies to decide the rule and regulations that will implement the laws. If Congress were to specify exactly how every bit of a several-hundred page law were to be enacted, it would literally take years to pass a single law. This is part of how our system works. These kinds of things are good to know, and were touched on in the article. Or you could just ignorantly blame Obama for everything.

  • Barney Frank on March 07, 2013 3:41 AM:

    Is it at all possible that some of the vast amount of rules the CFTC and SEC are writing are - how to put this - not very good?

    As an example, the article mentions the fact that the swap dealer registration threshold was raised from $100m to $8 billion (it doesn't mention that it will subsequently fall back to the $3 billion level) and says it's a bad thing to exclude all the tiny swaps users that would have been caught at the lower level.

    But is that correct? I don't know - I'm just asking the question - but given that the largest 10 dealers alone are counterparties to something like three-quarters of all trades, maybe it makes sense to catch those guys plus the 200-or-so dealers below them in the food chain, rather than, say, everyone?

  • The Thinker1958 on March 09, 2013 12:13 AM:

    Government for the current political parties is a game. They have the power. If they don't want the other party to do anything they do things like the one explain in this article. While people suffer in a daily basis Politicians keep playing their games. One day it will be enough for the millions (in the future maybe 200millions) poor people that will realize the scam the Politicians are running. Be prepare for home invasions, burning of Gov buildings, and say bye-bye to your way of life... it has happened through history, it will happen again.

  • Darryl on March 18, 2013 6:42 PM:

    Any other famous examples of brazen political word parsing besides those uncited violations committed by Cheney and Yoo? Is there anything that would come to the mind of everyone but the hackiest of hack writers?

    No? Maybe it just depends on what the meaning of "is" is.

  • Imrational on March 19, 2013 12:10 PM:

    I first learned about this kind of racket back when McCain and Kerry were trying to legalize pirate radio. The FCC found that there was plenty of radio spectrum available for public low powered broadcasters. Unfortunately, the law's intent was gutted by major media who, against all available science, said such stations would give too much interference to their stations.

    I've also dealt with "negotiations " at the municipal level. It's there too.

    It's all about people pushing their own self interest. The only solution is to push transperancy and place average Americans in places to act.

  • Dianna jacskon on March 20, 2013 11:20 AM:

    What a fabulous article. Thank you for writing it.

    What will it take? A total collapse of the system before the banksters and right wing judges and the GOP understand that what they are doing is destructive and against the will of the people? I'm just glad we cashed in securities to own the roof over our heads and buy our car. The whole system has the capacity to go up in smoke because of Wall Street. The aforementioned groups remind me of moths sitting on a carpet. They see the pieces of wool as individual pieces to be eaten but they don't see the entirety of the pattern on the rug, the big picture. All these people chipping away at the legislation in their various suits and robes don't see that by enabling the banks to do whatever the heck they want will result in another Wall St. debacle.

    One final point. This convinces me that we need publicly financed elections. Now.

  • Brian T. Raven on March 22, 2013 2:58 PM:

    A fine piece of work Ms. Edwards. Thank-you.

  • ezra abrams on March 25, 2013 12:08 PM:

    like many liberal commentators in the beltway, you are under the mistaken impression that Dodd Frank was actually *intended* to do good.
    Au contraire: the explicit purpoise of DF was to block any real reform by rule hell: DF was designed to look good, but all actuall decisions would be watered down by regualtory death

    Don't you get it ?? Frank and Dodd, sure as sin, are gonna get pay from the bankers; we already know that Frank takes trips on a hedge fund private jet.

  • rd on March 25, 2013 2:36 PM:

    You would think that even Repubicans would find the banks actions a complete perversion of their so called belief in markets - but no. They only conclusion is that they are totally bought.

  • Bruce on March 25, 2013 6:32 PM:

    ``It is in some ways a Sisyphean task. Here you have a group of rule makers' lawyers, economists, analysts, and specialists sitting around a table. On one side, they've got the language of Dodd-Frank, which requires them, by congressional mandate, to effectively regulate new, never-before-regulated products in never-before-regulated markets that change by the month.''

    These are the things that FDIC insured banks are allowed to do: a)... b) ... c) ...
    anything else is prohibited. What am I missing?

  • JC on April 10, 2013 1:22 PM:

    Incredibly well-written article. I wonder if there might be a 'reality show' in this. I mean, there is a "Hell's Kitchen", where a well-spoken and dramatic English chap, goes into a kitchen and blasts the egregious violations, laziness, and thoughtlessness of that kitchen apart.

    Can you imagine a John Stewart, or someone similar, pushing a new show, all about the 'Sausage Making Process', where this gets exposed on a daily basis, but with an aim to IMPROVE the process, so that recommendations are forecefully made? (Again, similar to Hell's Kitchen.)

    Right now, the 'good government' shows are boring as hell.

    Put in a derring-do Gordon Ramsay, write good and dramatic reality scripts, spice up the 'boring' government work, with a very interesting show about the PROCESS of goverment, in the bowels of the rule-making departments.

    It would work!! It still would be a show with small ratings, but, it could be fascinating enough, if well-written and the star interesting enough, that it would shine enough of a light, to intimidate the lobbying to scurry away back into the darkness.

  • wow'ed by this on April 11, 2013 1:34 PM:

    I think if Obama had the guts, he would have written the rule like this:

    " if your bank has asset value that is more than 0.5 percent of GDP goes bankrupt, all director and officer plus their spouse and children automatically go bankrupt".

    There would be no need to run economic models or be interpreted by lawyers. I would say this would even create smaller government.

  • wow'ed by this on April 11, 2013 1:48 PM:

    Actually I don't even think the law needs to be that draconian. It could just be:

    " If you are a director or officer of a bank with asset value greater than 0.5 percent of GDP, all your asset and your wife and your child can only consist of shares in the bank".

    You then get the incentive both ways.

  • Minz on April 20, 2013 11:19 PM:

    Instead of writing "better" laws (which will be torn apart by lawyers regardless), how about treating the problem at the root - by about banning all campaign contributions to political parties and politicians, and all outside funding of politicians (as a starter).

    Too many outside interests get in and politics is too incentivised by cash to be honest. Take away the cash as a root cause...