Running Head: THE DODD-FRANK ACT 1

The Dodd-Frank Act

Teresa J. Rothaar

Wilmington University

THE DODD-FRANK ACT

The Dodd-Frank Act

Overview

The Dodd-Frank Wall Street Reform and Consumer Protection Act, commonly referred

to as “Dodd-Frank,” was signed into law in 2010. It is named after its co-sponsors, Senator

Christopher J. Dodd (D-CT) and U.S. Representative Barney Frank (D-MA). The law’s genesis

was the Great Recession; Dodd-Frank’s purpose is to place major regulations on the financial

industry so that another Lehman Brothers-like collapse and subsequent economic crisis could be

averted. Additionally, the law contains provisions meant to protect consumers from abusive

lending practices, such as the subprime mortgage products that were ubiquitous during the

housing bubble (Koba, 2011).

Containing 848 pages and 16 Titles, with effective dates ranging from July 2010 through

July 2015, Dodd-Frank is the largest financial regulation law Congress has ever enacted.

Implementation of its various provisions will require approximately 243 separate rules and about

90 studies (Whitney, 2011). As of early 2012, approximately 48% of Dodd-Frank provisions

that require rulemaking were not finished, and uncertainty abounds regarding what the law will

actually end up doing, and whether it will achieve its original goals. Because Dodd-Frank is

voluminous and complex, and because so much of it has not yet gone into effect, we are arguably

less certain about the consequences of Dodd-Frank than we are about Obamacare—and it may be

even more difficult to convince Americans to back Dodd-Frank (Khimm, 2012). The following

pages will explore the potential impact of Dodd-Frank on the economy, credit, consumers and

industry.

2

THE DODD-FRANK ACT

Dodd-Frank’s Impact on the Economy

The Great Recession was triggered by the bursting of the housing bubble of the early to

mid-aughties. Housing and mortgage markets began struggling in early 2007, the mortgage

market went into full meltdown mode in August of that year, and the entire financial system

nearly collapsed when Lehman Brothers fell in September 2008 (Whitney). Proponents of

Dodd-Frank argue that if its provisions—in particular those related to “too big to fail” (TBTF)—

had been in place at that time, the recession could have been avoided, or at least its impact

softened. Opponents fall into two categories: those who feel that Dodd-Frank is an overreaction

to the recession that imposes unnecessary burdens on financial institutions, and those who feel

that it does not go far enough to rein in what they see as an out-of-control risk-taking culture on

Wall Street (CNBC, 2012).

Two major provisions of Dodd-Frank which will impact the economy are the “too big to

fail” (TBTF) provisions and the Volcker Rule. In an effort to prevent another major financial

institution from collapsing and pulling the entire economy down with it, Dodd-Frank enshrined

the concept of TBTF into law. The law created the Financial Stability Oversight Council

(FSOC) to act as a watchdog for the financial industry, on the lookout for problems that could

damage the entire economy. The FSOC has the power to declare a bank TBTF; if a bank is

found to be TBTF, it can be required to increase its reserves, give more detailed reports to the

government, and possibly even be forced to break up in Ma Bell-like fashion (CNBC, 2012).

Additionally, all banks will be required to have a “doomsday plan” that outlines an organized

shutdown process should the bank go under, so that its customers will not be left holding empty

bags (Weise, 2012).

3

THE DODD-FRANK ACT

Critics of TBTF, such as Grover (2012) claim that Dodd-Frank creates an atmosphere of

“incestuous corporatism” which actually benefits the largest banks, both by crushing their

smaller competitors under the weight of increased government regulations and by creating a

moral hazard situation where TBTF banks know that even if they gamble like drunken sailors

and lose, the government will be there to bail them out. Grover argues for free-market solutions

that would allow banks to compete—and succeed or fail—with minimal to no government

involvement. Similarly, The Financial Services Roundtable (FSR), in a report dated June 2012,

also expressed concerns over the impact of regulations on financial institutions, claiming that too

much regulation will discourage innovation and stifle economic growth.

However, Christopher Dodd, the law’s co-sponsor, argues in his October 2011 editorial

that the mere fact that Wall Street is reacting negatively to Dodd-Frank means that the increased

regulation will be a positive thing for the economy. Dodd claims that the law will “modernize

and strengthen” financial regulations in such a way that small community banks can better

compete against TBTF institutions, and that the lion’s share of Dodd-Frank regulations will

apply only to “a few dozen of the largest [banks], each holding more than $50 billion in assets,”

not to tiny local banks and credit unions.

The Volcker Rule is meant to prevent banks from, in effect, using their depositors’

money to gamble in hedge funds, private equity funds or proprietary trading operations for the

bank’s own profit; the idea is that banks are supposed to serve the best interests of their

customers, not themselves. However, determining which funds are generating profits for the

banks and which are generating them for bank customers can be quite complicated. Dodd-Frank

acknowledged this fact and gave banks two years to sort out their finances before Volcker came

into effect; the original deadline was in summer 2012 (CNBC, 2012). However, not only has

4

THE DODD-FRANK ACT

this deadline come and gone without Volcker being implemented, no final rules have been

written in order to implement it—and it may not be implemented until 2014. As a result, some

large institutions, such as Goldman Sachs, have simply ignored Volcker, figuring that by the

time it is finally implemented, it will include so many exemptions, extensions and loopholes that

the banks it was supposed to rein in will simply figure out how to get around them and continue

business as usual (Primack, 2013).

Dodd-Frank’s Impact on Credit

Like the possible impacts on the economy discussed in the previous section, Dodd-

Frank’s impact on credit is largely unknown; it is dependent on how onerous lending institutions

perceive its final regulations to be, and how much compliance with them will cost. FSR (2012)

argues that the uncertainty surrounding Dodd-Frank is already causing lenders to restrict credit

availability and raise the price of borrowing.

The Consumer Financial Protection Bureau (CFPB) was created by Dodd-Frank and is

supposed to protect consumers from abusive and deceptive lending practices, not just by banks

and mortgage brokers but alternative lending outlets such as payday loan companies and “Buy

Here Pay Here” car lots. The CFPB also has authority over credit reporting agencies and debt

collectors (CNBC, 2012). However, there are numerous exemptions to CFPB oversight,

including auto dealers that neither finance their own transactions nor sell their paper (in other

words, are not “Buy Here Pay Here”), providers of non-financial goods and services (the

“Macy’s Exception”), real estate brokers and sellers of modular and manufactured homes who

are not involved in financing their transactions, charities, and insurance companies (Whitney,

2011).

5

THE DODD-FRANK ACT

Being as Dodd-Frank was born out of the bursting of the housing bubble, many of the

CFPB’s major duties have to do with the mortgage market. Mortgage lenders are now required

to verify applicants’ employment, income and credit history, eliminating the no-doc and low-doc

“liar loans” made in droves during the height of the bubble. They are prohibited from enticing

appraisers to inflate a property’s value and cannot discourage mortgage applicants to shop

around for better deals. Additionally, the definition of who is a “mortgage originator” has been

expanded, and limits have been placed on how they can earn their compensation, most notably

the banning of yield-spread premiums and “dual-source compensation,” where the originator

earns money from both the borrower and the lender (Whitney, 2011).

While consumer advocates hail the reforms as a way to protect borrowers from becoming

overwhelmed by debts they can never afford to pay back (Whitney, 2011), opponents argue that

these restrictions will drive up the cost of lending and restrict credit availability (FSR, 2012).

New Mexico-based loan officer S. Dougherty (personal communication, February 14, 2013), is

especially concerned about the provisions banning no-doc and low-doc loans. While Dougherty

admits that these loans certainly were abused during the housing bubble, he maintains that they

have a valid place in the credit market: they have been utilized for decades by self-employed

applicants who have difficulty verifying their income using traditional methods. Dodd-Frank’s

“protections” against abusive lending were written with W-2 employees in mind, not business

owners and 1099 contractors who do not get pay stubs and whose income can fluctuate wildly

throughout the year.

Still, not all lenders share Dougherty’s concerns. The Board Chair of one credit union in

New York testified before Congress that not only has her credit union not experienced any

6

THE DODD-FRANK ACT

negative effects from Dodd-Frank, but that its business is booming, profits are up, and there are

no plans to increase fees to comply with Dodd-Frank provisions (Anderson, 2012).

Dodd-Frank’s Impact on Consumers

As discussed in the previous section, Dodd-Frank implements many measures aimed at

protecting consumers from abusive lending practices, especially in the mortgage industry;

arguably the most immediate impact of Dodd-Frank on consumers is the disappearance of no-

doc and low-doc mortgage loans, now banned under the law. However, this means that far fewer

people now qualify for home financing, which has slowed the real estate market (FSR, 2012).

Additionally, Dodd-Frank contains foreclosure reforms aimed at keeping more distressed

homeowners out of foreclosure. It amends the Home Affordable Modification Act (HAMP),

adding a website where homeowners can determine if they qualify for a HAMP modification of

their loan, and mandating the “public release of certain data.” Additionally, Dodd-Frank created

a special bridge loan program for unemployed homeowners and authorized $35 million for legal

services to defend against foreclosures and evictions (Whitney, 2011).

The CFPB also has power to regulate alternative—and controversial—lending outlets

such as payday loan companies, car title loan companies, and “Buy Here Pay Here” car lots, long

a target of consumer advocates who allege that these lenders take advantage of the poor and

desperate. However, the CFPB’s oversight of these “nonbank” lenders did not commence until

January 2012, and due to the sheer number of nonbank lenders in existence (tens of thousands),

little progress has been made (Zeisel, 2013). Zeisel goes on to argue that, realistically, it will be

impossible for the CFPB to devote as much time and as many resources to overseeing nonbank

lenders as it does to banks, simply because there are just too many of them; it could therefore

take quite some time before consumers see any real reforms in these areas.

7

THE DODD-FRANK ACT

The Durbin Amendment to Dodd-Frank is something that consumers have only recently

been feeling the full effect of. The amendment was meant to limit “swipe fees” charged to

merchants by credit-card processing companies; ostensibly the savings would be passed onto the

consumer in the form of lower prices. In reality, the opposite has happened. As of January 27,

2013, merchants are allowed to charge consumers paying via credit cards an additional

“checkout fee” to offset their swipe fees (Goessl, 2013). I personally witnessed this at my local

hairdresser’s on February 15; the shop is now charging an additional 4% fee for any transactions

completed by credit card. In addition to costing consumers more at the cash register, many

Durbin opponents are concerned that the bank fee caps contained within Durbin will spell the

end of free checking and a widespread annual fees for credit cards, as banks attempt to make up

the difference (FSR, 2012).

Dodd-Frank’s Impact on Industry

While Dodd-Frank will most significantly impact the financial industry, its regulatory

requirements apply to all public companies (Ernst & Young, 2012). Many of these new

regulations have to do with increasing corporate transparency.

The new Federal Insurance Office (FIO) was created in order to identify insurance

companies that pose a risk to the entire financial system, such as AIG. In addition to being a

watchdog over the insurance industry, the FIO is tasked with making certain that “affordable

insurance” is available to minorities (CNBC, 2012).

All public companies will be required to make public the compensation of their

executives as compared to that of their employees (Weise, 2012). Further, investors can now

vote directly on company pay practices and say-on-pay (SOP) vote frequency at most

companies; companies will then be required to discuss, in their Compensation Discussion and

8

THE DODD-FRANK ACT

Analysis, if and how the SOP advisory vote results impacted their compensation decisions and

policies (Ernst & Young, 2012). In another move to encourage transparency, the Treasury

Department is instituting a corporate ID system in which each company would have its own

number, and all subsidiaries and offshoots would be listed (Weise, 2012).

The SEC Whistleblower Program, which became effective in 2011, provides for awards

of up to 30% of recoveries from SEC enforcement actions resulting in sanctions exceeding $1

million. Whistleblowers can go directly to the SEC to report wrongdoing, and are not required to

notify their company (Ernst & Young, 2012).

Provisions regarding “conflict minerals”—minerals mined in areas where there is armed

conflict and/or human rights violations—are of special concern for the electronics industry,

where supply chains are complex and suppliers are limited. One study reported that only about

11.3% of electronics manufacturers are prepared to comply with the new rules (Matthews, 2012).

In its report, Ernst & Young (2012) states that the SEC Whistleblower Program and the

conflict minerals regulations will require companies to review and revise their internal

procedures and policies regarding fraud reporting and supply chain logistics. Additionally, the

report goes on to say, Dodd-Frank’s disclosure rules, in particular SOP votes, has created a new

atmosphere of transparency, and encouraged public companies to open up dialogue with their

stakeholders; some public companies have already begun beefing up their proxy statement

disclosures and communicating more with their investors.

Just as with other provisions of Dodd-Frank, there are exceptions to these rules. Under

the JOBS Act of 2012, organizations classified as “emerging growth companies” (EGC) will be

exempt from SOP requirements and certain other regulations for up to five years from going

public (Ernst & Young, 2012), providing they continue to meet the definition of an EGC.

9

THE DODD-FRANK ACT

When the Great Recession hit, credit rating agencies fell under fire for allegedly giving

overly optimistic ratings to questionable derivatives and mortgage-backed securities, leading

investors to believe the investments were more stable than they actually were (CNBC, 2012).

Under Dodd-Frank, rating agencies will be made to make their ratings and results available to the

public online (Weise, 2012), and the SEC will have the power to de-certify any agency it feels

provides “misleading” ratings (CNBC, 2012).

Derivatives trading is now subject to numerous regulations and reporting requirements,

including regulation by the SEC or Commodity Futures Trading Commission (CFTC), and the

establishment of an exchange where derivatives can be traded publicly (eliminating “backroom

deals”). However, the law did not specify how the exchange was to be set up, and some

derivatives—certain energy companies, banks, and hedge funds—are exempted from the law

(CNBC, 2012).

Conclusion

Dodd-Frank is a massive, complicated piece of legislation that is arguably more complex

and leaves more uncertainty in its wake than Obamacare. This is compounded by the fact that

while most Americans understand healthcare and health insurance on at least a basic level, they

do not understand the high-level finance concepts, such as hedge funds, SOP voting and

derivatives, that Dodd-Frank deals with.

Additionally, Dodd-Frank is, in effect, an incomplete law that is heavy on rules but

contains almost no actual rule-making or implementation processes. Exactly how all of its goals

were to be achieved was shoved down the line, which is why so much of the law has yet to be

implemented. Ernst & Young (2012) states in its report that “the pace of Dodd-Frank

implementation is unlikely to quicken and deadlines will continue to be missed.” Although the

10

THE DODD-FRANK ACT

reelection of President Obama at the end of 2012 ensured that Dodd-Frank would not be repealed

outright, the law remains controversial. The finance industry continues to resist it at every turn.

Consumers do not understand the law and do not see how it benefits them. Between the ongoing

controversy and resistance, and because so many rules are yet to be written to implement its

provisions, the law may end up gutted in the end.

11

THE DODD-FRANK ACT

References

Anderson, H. (July 19, 2012). CU Witnesses Disagree on Dodd-Frank’s Impact During

Congressional Hearing. Credit Union Times. http://www.cutimes.com/2012/07/19/cu-

witnesses-disagree-on-dodd-franks-impact-during

Dodd, C.J. (October 21, 2011). Five Myths About Dodd-Frank. The Washington Post. Retrieved

from http://www.washingtonpost.com/opinions/five-myths-about-the-dodd-frank-

financial-regulations/2011/10/19/gIQAtq7j4L_story.html

Ernst & Young (Spring 2012). Dodd-Frank Act: Key Points for Companies Beyond the Financial

Services Sector. Retrieved from http://www.ey.com/Publication/vwLUAssets/Dodd-

Frank-Act/$FILE/Dodd-Frank-Act.pdf

Financial Services Roundtable, The. (June 2012). Economic Impact of the Dodd-Frank Act.

Retrieved from http://www.fsround.org/fsr/publications_and_research/files/Economic-

Impact-Dodd-Frank-Act-June-2012.pdf

Goad, B. (January 28, 2013). Report: More Than Half of Dodd-Frank Rules Still in the Works.

The Hill. Retrieved from http://thehill.com/blogs/regwatch/finance/279675-report-more-

than-half-of-dodd-frank-rules-still-in-the-works

Goessl, L. (January 28, 2013). Credit Card “Checkout Fees” For Consumers Permitted as of Jan.

27. Digital Journal. Retrieved from http://www.digitaljournal.com/article/342280

Grover, E. (November 30, 2012). Dodd-Frank Regulations Strangling Economy. The

Washington Times. Retrieved from

http://www.washingtontimes.com/news/2012/nov/30/dodd-frank-regulations-strangling-

economy/

12

THE DODD-FRANK ACT

Khimm, S. (May 15, 2012). Why Dodd-Frank Could Be a Harder Sell Than Obamacare. The

Washington Post. Retrieved from

http://www.washingtonpost.com/blogs/wonkblog/post/why-dodd-frank-could-be-a-

harder-sell-than-obamacare/2012/05/15/gIQAcR6RRU_blog.html

Koba, M. (May 11, 2012). CNBC Explains: Dodd-Frank Act. Retrieved from

http://www.cnbc.com/id/47075854/CNBC_Explains_DoddFrank_Act

Matthews, C. (October 25, 2012). Electronic Makers Unprepared for “Conflict Mineral” Rules.

The Wall Street Journal. Retrieved from

http://blogs.wsj.com/corruption-currents/2012/10/25/electronic-makers-unprepared-for-

conflict-mineral-rules/

Primack, D. (January 22, 2013). How Goldman Sachs Beat the Volcker Rule. Retrieved from

http://finance.fortune.cnn.com/2013/01/22/goldman-sachs-volcker-rule/

Weise, K. (January 12, 2012). Dodd-Frank in One Graph. BloombergBusinessWeek Magazine.

Retrieved from http://www.businessweek.com/magazine/doddfrank-in-one-graph-

01122012-gfx.html

Whitney, J. (April 7, 2011). Dodd-Frank: New Consumer Protections and the CFPB. Retrieved

from http://www.ihoep.com/userfiles/file/IHOEP Dodd Frank 4_7_11.ppt

Zeisel, S. (February 2013). CFPB: Growing Pains of a New Agency. Novantas Review.

Retrieved from http://www.novantas.com/article.php?id=371

13