ObamaCare isn’t the only Obama-era legislation that President Trump and the GOP are eager to dramatically modify. The Dodd Frank financial reform law is also being targeted for big changes.
Much of the controversy has centered on possible reforms to the Consumer Financial Protection Bureau. That is one of many aspects of the Financial CHOICE Act, a bill which would provide an alternative regulatory framework to Dodd Frank.
But the bill would do far more than that. As my AEI colleague Paul Kupiec explains in a recent analysis, “It gives banks a choice: either continue under Dodd-Frank regulations or, alternatively, choose to maintain higher minimum capital – by meeting a higher ‘leverage ratio’ of 10% – in return for being exempt from many Dodd-Frank regulations that are seen as overly burdensome and micromanaging bank operations.”
So what would a big or “universal” bank do? Stick with Dodd Frank or go with this new regulatory scheme? Right now, probably the latter, according to analysis from Keefre, Bruyette & Woods:
Universal Banks would certainly benefit from less regulation, as outlined in Rep. Hensarling’s Financial CHOICE Act 2.0 memo. However, if the supplementary leverage ratio (SLR) requirement is 10% — and common equity were required to be a large portion of the capital stack — then we do not see enough benefit for Universal Banks to adopt the CHOICE Act initially. If a bank adopts the CHOICE Act, improvements to regulation would include ending stress tests, lowering operations risk weighted assets, removing CAMELS, easing some capital market restrictions and regulation, and deemphasizing the CFPB’s role as a regulator.
All in, we believe that for Universal Banks to consider choosing the CHOICE Act 2.0’s regulatory off-ramp, the SLR minimum would need to be closer to 8%, as opposed to the 10% minimum that was speculated for last year’s initial proposal. In Exhibit 1 is our analysis of the potential impact of Hensarling’s proposal on the Universal Banks. In our analysis we use a 10% SLR requirement and a 1% management buffer for all banks. We also assume that debt would roll off at 90% of the amount of preferred issued, and we use each company’s long-term debt yield for interest expense savings. Under our Hensarling-like leverage ratio, Universal Banks could have to raise $ 552 billion of additional preferred shares in aggregate, and the average impact to EPS would be a 27.7% decline in our 2018 estimates, all else equal, if preferreds were issued in 2017.
Indeed, Kupiec offers a similar conclusion: “Industry reactions suggest that the Choice Act would be popular among community banks, but is unlikely to appeal to all banks. Large banks have even expressed appreciation for Dodd-Frank. For example, a 2013 analyst report quoted JPMorgan Chase CEO Jamie Dimon as saying some Dodd-Frank provisions expand the ‘moat’ that gives banks like his an advantage.”
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