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.
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.
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