Trump’s plan for financial reform is half-right

The Trump administration’s latest plan to reform financial regulation starts in a very good place: It attacks the ridiculous complexity of the current system. But it fails to follow through with new rules that promote safety as well as simplicity. Put into practice, it could be a big step backwards.
The Treasury Department’s new report is right to complain that the US regulatory structure is far too unwieldy. The system consists of more than a dozen agencies with huge blind spots and overlapping duties that often border on the absurd. A single community bank, for example, might answer to four
different supervisors.
Getting Congress to simplify the system would be a great achievement, provided it’s done right. But a simpler system also needs more effective rules — rules that, in effect, trade financial strength for regulatory relief.
Ample loss-absorbing equity capital, together with well-crafted constraints on potentially volatile short-term financing, could obviate the need for most Dodd-Frank requirements, including such labor-intensive exercises as stress tests and living wills. These are necessary mainly because banks still have too little capital to protect the economy from their mistakes.
This is where the Treasury’s plan falls short. It includes some good proposals, such as easing lending rules for community banks and focusing special supervision only on the big banks that really need it. For the most part, though, it would weaken existing regulations — for example, by making stress tests less stressful — without offering a more effective alternative. Meanwhile, it would complicate regulators’ simplest measure of capital, known as the leverage ratio, with a list of exceptions. Following these rules, banks would almost certainly end up with even less equity than now.
It’s especially troubling that the most questionable parts of the reform would be the easiest to implement. Regulators can ease capital and liquidity requirements on their own.
Changes such as consolidating agencies or altering their mandates would require action from a gridlocked Congress. So the likely result of moving forward with this plan would be a financial system that’s more fragile without
being any less burdened with
complexity.
The exact balance of safety and simplicity will depend on how the plan is executed, and it remains
to be seen which parts the
administration will choose to prioritize. But this looks like a missed opportunity.
The Treasury’s diagnosis is largely correct, but its prescription is dangerously flawed.

—Bloomberg