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In the first months of Donald Trump’s presidency, one of the first items on his agenda is to dramatically scale back on financial regulation. At the center of the discussion is the Dodd-Frank Act and Trump’s intentions to overturn it. Although Dodd-Frank is primarily discussed within the realm of banking, real estate experts are concerned about Trump’s repeal of the act and its effect on the market.
To Regulate, or Not to Regulate?
The dispute over the Dodd-Frank Act lies in the disagreement between Democrats and Republicans as to whether its burden on banks is harmful to the economy. In the Democratic camp, the act is viewed as the recent recession’s saving grace. Republicans, however, see the act as stifling and an impediment to economic growth. To further understand the dispute between the two parties, we must first understand the content of the Dodd-Frank Act.
What is the Dodd-Frank Act?
The Dodd-Frank Act was passed in 2010 by the Obama administration as a solution to the 2008 financial crisis. The act contains a series of regulatory reforms for banks and other financial institutions to safeguard the economy from another meltdown.
Of the act’s myriad of requirements, USA Today points out four of its heavily debated provisions:
- It raises the base amounts that capital banks must hold in their reserves. This broadens banks’ cushions to better absorb loan losses during market blips.?
- It requires banks to keep a larger percentage of its assets in easily liquidated forms. In the case of another recession, banks that store a higher percentage of their assets in easily liquidated forms (such as government securities) would survive.?
- The nation’s biggest banks are required to face more regulatory requirements. Forbes reports that if a bank’s assets exceed $10 billion, Dodd-Frank requires it to be subject to increased oversight. Banks with assets exceeding $50 billion are subject to a series of “stress tests” conducted by the Federal Reserve. If banks pass these tests, they are deemed “systemically important” and are required to undergo testing annually. Global systemically important banks, or G-SIBs, are also required to hold a larger G-SIB surcharge which can go as high as 3%. Additionally, these larger G-SIBS banks are also required to submit “resolution plans to regulators each year, detailing how they could be resolved without causing harm to the financial markets in the event they go bankrupt.”?
- The Volcker Rule outlaws banks from engaging in proprietary trading. This prevents universal banks from making profits off of their own invested money instead of their clients’ money.
How Does the Dodd-Frank Act Affect Real Estate?
The Dodd-Frank Act affects real estate indirectly by its impact on financial institutions. The act is heavily regulatory by nature and therefore makes it more difficult for individuals and smaller companies to obtain mortgage loans. Democrats and regulators praise the act for its stabilizing effect on the economy. Republicans and deregulators, nonetheless, argue that the act is too restrictive and hostile towards smaller business and individuals.
President Trump has been vocal about his intentions to dismantle the Dodd-Frank Act calling it a “disaster” and an “embarrassment.” As a deregulator, Trump is looking to stimulate the economy by removing restrictions on banks so that smaller entities are approved for loans.
At the beginning of the month, the President issued a memorandum for his plans to dramatically scale back the heavy regulation of the act. In an interview with the Wall Street Journal, White House National Economic Council Director Gary Cohn discusses Trump’s plan: “Americans are going to have better choices . . . and products because we’re not going to burden the banks with literally hundreds of billions of dollars of regulatory costs every year.”
Keep An Eye Out For The Volcker Rule and The Fiduciary Rule
If Trump’s cabinet successfully dismantles the act, there will likely be an increase in commerce in the short-term. However, the real point of uncertainty lies in whether Trump will replace Dodd-Frank with some regulatory measure that will prevent banks from making risky investments.
The theme of Trump’s latest rhetoric suggests that he is going to allow banks full rein when it comes to their relationships with smaller entities. Within Trump’s plan is his intention to block the act’s Volcker rule and fiduciary rule.
Effects of Revoking the Volcker Rule
By revoking the Volcker rule, Trump would be authorizing banks to engage in proprietary trading. This would allow banks to make investments that would only benefit the institution itself and not its customers. Trump’s potential block of the fiduciary rule has a similar pro-bank sound to it as well.
Effects of Revoking The Fiduciary Rule
According to the New York Times, the fiduciary rule “requires brokers to act in ways that will benefit the client’s best interests rather than seek the highest profits for themselves.” Although the fiduciary rule primarily has to do with IRAs, Trump’s intention to abolish it further confirms his motives to allow banks to favor themselves over clients. If the President repeals this rule, banks would be allowed to dispense advice to clients that would solely benefit themselves over the client. Financial institutions could ultimately grant mortgage loans to high-risk individuals and smaller entities, thus putting the real estate market in a precarious state similar to the one in 2008.
Predictions for Dodd-Frank’s Repeal
Although repealing the Dodd-Frank Act would result in short-term prosperity by allowing more individuals to obtain loans and enter the market, it is doubtful that the market would succeed without any critical regulation in the long run. Whatever the next few months hold for the Dodd-Frank act, it is evident that if the President does not replace it with some type of regulatory measure to prevent abuses by banks, the real estate market could be headed for yet another downturn.