6

BRANDEIS UNIVERSITY LAW JOURNAL

[Vol. 4

E CONOMIC L AW & B ANKING REGULATION : L OOKING B ACK , M OVING FORWARD

Uri Yahil*
In the wake of the 2008 financial crisis, the issue of bank oversight has become extremely divisive, with the opinions of experts and laypeople alike varying wildly across the political spectrum. This article explores the question of whether it is possible to achieve an efficient mix of regulation and free market principles. It first discusses how economic law informs our understanding of how to correct market failures and describes the reactionary nature of Depression-era reforms. Finally, it describes the ebb and flow of regulation in the modern era. The article concludes that government regulation is largely unhelpful if consumers lack an understanding of what kinds of bank behaviors can negatively impact their lives in the long run.

I. INTRODUCTION

ince the Subprime Mortgage Crisis of 2008, the call for greater oversight of banks and bank holding companies has never seemed greater. Economists of various political perspectives have acknowledged a strong relationship between the current economic recession in the United States and the excessive speculation of banks and bank holding companies. However, there are those who take this analysis one step further, arguing that the actions and decisions of banks were to be expected; they merely took advantage of an inherently dysfunctional system. While there is no common consensus on how best to address systemic risk (some go so far as to blame capitalism in its entirety), many economists agree that the problem could be mitigated by stronger government regulation of the financial sector. This claim is gaining popular support, as imagery of Wall Street fat cats and the one percent spurs the regulation movement onward. Indeed, it would not be
*

Undergraduate at Brandeis University, Class of 2014.

2013]

Economic Law & Banking Regulation

difficult to find plenty of U.S. citizens who at least partially blame banks for the current economic downturn. Even so, casting blame and proposing solutions are not one and the same, and many who are quick to point the finger are also the first to admit they have no idea how to realistically draft and implement the laws necessary to avert similar situations in the future. Finance is a veritable rabbit hole, and the opaqueness of the transactions involved has undeniably contributed to the litany of conspiracy theories surrounding the industry. The question thus becomes twofold: should we regulate the financial sector, and if so, how do we regulate it? The answers to these questions will illuminate how influencing the consumer decisions of ordinary people may be the only viable means of obtaining a safer financial industry. Government regulation does not seem promising in theory and in practice.

II. ECONOMICS AND THE LAW: IN THEORY AND IN PRACTICE

Before one can make a reasonable case for how to draft and implement laws regarding banking, some consideration of the broader category of economic law should be discussed. This includes defining both the concept of economic law, as well as the meaning of economic. Such a task is undeniably daunting, and in and of itself could constitute the focus of an entire paper. Thus, while acknowledging that the interpretation is debatable, this paper will consider the economic in somewhat Marxian terms - as the recurrent relationships and interdependencies over the course of production, distribution and exchange of goods and services within human society. 1 Economic law is thus the rules and obligations, both customary and explicit, which preside over the economic functions within a given society. This definition will focus the discussion primarily on the execution of law in a specific subset of economic relationships. It will also allow us to focus on the theory of law that explains financial laws existence and implementation
1 KARL MARX, DAS KAPITAL: A CRITIQUE OF POLITICAL ECONOMY (Friedrich Engels et al. eds., 1st ed., Gateway Publishers 1965) (1867).

BRANDEIS UNIVERSITY LAW JOURNAL

[Vol. 4

to begin with; chiefly the economic theory of law. The former constitutes the practice of economic laws while the latter identifies the theory used to suggest those laws in the first place. These two focuses will inform the practicality of legislating new banking laws and help make the case that government regulation may not be as efficacious as it seems. The economic theory of law is most often cited, though not always wittingly, when advocating for or against particular economic legislation. It has at its core two fundamental and highly related components. The two general principles are inverses of each other: one is that the law is best interpreted as a means of promoting economic efficiency, and the other is that economic efficiency should be used as canon for legal practice. Proponents of this philosophy often argue that the paradigm of justice is the contract freely entered into, thus, law should be seen as a method of optimizing contractual arrangements. 2 This analysis of law interprets distinct legal issues as ultimately having economic aims, and arguably gives the law a more concrete methodology than other theories can provide. 3 Some even argue that law is fundamentally better able to resolve conflict according to efficiency, rather than justice, because an efficiency-based legal system would be less vulnerable to structural incompetence within courts. This argument has its own critics, who dismiss the notion that all circumstances can be reduced to simple economic equations, and doubt that the pursuit of efficiency would be any less subjective in practice than the pursuit of justice. In addition, it is argued that many principles of economic law, such as the enforcement of property rights, are not of sole economic origin; rather, they are argued to be aspects of natural law that are necessary for the just organization of an advanced society. Despite the debate, which often concerns itself mostly with semantics, it is evident that some economic principles are often applied by jurists in their writings and have been known to permeate into legal statutes.
2 The Economic Analysis of Law, STANFORD ENCYCLOPEDIA OF PHILOSOPHY (Aug. 12, 2011), http://plato.stanford.edu/archives/fall2011/entries/legal-econanalysis. 3 RICHARD A. POSNER, ECONOMIC ANALYSIS OF LAW (1st ed. 1973).

2013]

Economic Law & Banking Regulation

Regardless of whether economics should be used to model the law, the law has been used in two fundamentally economic ways: to codify customary economic interactions and prohibit economically disruptive practices. The first of these applications can be seen in various aspects of the legal world. Tort law, for example, is deeply rooted in customary economic interaction. Tort law attempts to protect individuals from duplicitous business transactions and provides legal remedy to those who, lacking recourse to an official judiciary or arbitration, would have resorted to unwholesome methods of obtaining compensation. The principle there is timeless; if you cheat me, Ill get my moneys worth one way or another. For the purpose of creating a more civilized, harmonious community, these laws were established to provide people with compensation without needing to resort to violence or theft. Similarly, the collateralization of debt obligations can be viewed as a customary practice, used since time immemorial to assuage the fears of otherwise reticent lenders. However, regulatory practice such as that in the banking sector falls largely into the second category: law that is designed to prevent harmful business practices that might otherwise occur naturally. Such laws are put in place when there may not be a readily available custom to guide our legal structure. Throughout history, financial regulation has largely taken this form. There is no custom that warns us, for example, against proprietary trading; there is only a controversial historical record and the equally controversial interpretation of that record by legal and economic experts. As is wont of academia, the experts are prone to disagree, often for ideological reasons. Whether a practice is considered economically disruptive lies heavily in the eye of the beholder. When it comes to the prohibitive aspect of economic law, its development in the American capitalist system has been caught in the eternal lovers quarrel between the market and the State. Agents of the market have been known to criticize the States jurisdiction of the economic realm, especially when the issues have involved labor laws or capital management requirements. Like Moses coming down from Mount Sinai, they carry the commandments of economics and ordain, Let the market reign

10

BRANDEIS UNIVERSITY LAW JOURNAL

[Vol. 4

supreme! However, these same actors are quick to go mewling to the courts for intervention to enforce good economic laws, such as those that enforce contractual agreements and protect intellectual property. The point here is not to ridicule the capitalist, who wishes only to devoutly practice his profit-maximizing principle, but to illustrate that government oversight of the economy is not ubiquitous. It is generally assumed that government regulation, especially that of a prohibitive nature, is only necessary and prudent where there are negative externalities; costs borne on society that are not borne mostly by either of the parties specifically involved in a given transaction. In the case of intellectual property rights, the argument goes that if there were no laws protecting intellectual property and an individuals right to profit thereof, the negative externality would be a lower incentive to invent new goods or services and thus a loss of innovation within the marketplace. When there are externalities that are unaccounted for, there is said to be market failure. According to many schools of economics, it is only when the market is experiencing such a failure that government intervention is justified. The legitimate exercise of government authority in this situation is explained through the prohibitive economic theory of law, which justifies government intervention for the purpose of preventing market failure, so as to promote the primary goal of economic efficiency. Such an interpretation is prone to two major complicating factors. The first problem is a quantitative one and the second is a qualitative one. The quantitative problem should receive attention first as it is perhaps more obvious. Given that a regulatory institution identifies an externality contributing to a market failure, how does it go about assigning a price tag to the externality? If a factory is contributing to water pollution in its production of pharmaceuticals, how would a government committee decide objectively how much the owners of the factory should pay in damages to individuals who use the polluted water but do not consume pharmaceuticals? When an investment bank misrepresents the riskiness of the assets underlying a security, it creates a market failure wherein the price of the assets is said to be

2013]

Economic Law & Banking Regulation

11

artificial. In a sense, the bank is polluting the economic environment, keeping the prices of its assets lower than they would be under normal market conditions and thus leading to a nonoptimal level of consumption of various securities. This activity is particularly problematic when the assets are subsequently used as collateral in debt obligations and can have a highly destabilizing effect on the economy. But if the State demands compensation from the bank for producing this negative externality, how does it decide the dollar value of market stability? It should go without saying that there are numerous philosophical problems with placing a dollar value on societys financial health and safety. These problems impede the States ability to find a compromise between the agents within the market who are causing the externality and the individuals outside of the market who are suffering from it. It may ultimately be simplest to prohibit the externality-producing transaction altogether, though this may not be socially optimal either. The second problem, the qualitative one, is significantly more contentious. The problem is that what may be a negative situation for one individual can in fact be quite positive for another. Take for instance the issue of health care in the United States. The increasing cost of health insurance and the decreasing amount of coverage has numerous negative externalities, most significantly the inability of low-income individuals to financially endure serious health problems and the social stratification that ensues as a result. On the other hand, for an insurance company, higher premiums and lower coverage means more profit. This profit can be used to expand the business. Hypothetically, it might create jobs and foster investment in the community, a positive externality. For these companies, the logical conclusion is that premiums should be higher and coverage lower, so as to fully realize these gains. Similarly, the inconvenient truth is that investment banks misrepresented the risks in their securities prior to the financial crisis because doing so made credit cheaper and more available to fund projects. The take away is that most market interactions can be viewed as having both positive and negative externalities, and since the quantitative problem makes simple cost-benefit analysis

12

BRANDEIS UNIVERSITY LAW JOURNAL

[Vol. 4

almost impossible, any State intervention must qualitatively decide which is the more legitimate. When one additionally considers the resource advantage that one group might have over another and how those resources can be used to influence politics, it becomes evident why this poses a serious problem. Market failure is a largely subjective notion, and policies that fail the majority of people can be quite beneficial for those with the political power to help define them.

III. THE GREAT DEPRESSION AND BANK REGULATION: THEN AND NOW
Returning to the issue of banks and their regulation, it is important to stress once more that there is not a solid foundation of customary interaction with which to shape regulatory laws. Although it is true that there was once a time in human history where the simple act of charging interest on a loan was considered vile and immoral (usury), such perception has long been outdated, though strands of it still remain in certain religious denominations. These days, charging interest is considered standard practice when issuing a loan. Economic theory has mustered numerous arguments to explain why usury is in fact beneficial to our economy, ranging from more straightforward, commonsense arguments to highly sophisticated deductions that largely abstract from reality. Regardless, it is still a widely held ethical and practical notion that individuals and institutions should not set loan interest rates in an unreasonable or predatory way. Understanding what makes a loan potentially predatory, however, is not common knowledge. When one further considers the milieu in which banks operate, new financial innovations brought on by computational software, and the abundance of credit and liquidity transformations that banks engage in beyond the simple act of taking deposits and issuing loans, it becomes even clearer that economic law pertaining to banks and bank holding companies cannot reasonably rely on custom. Instead, it must depend primarily on intellectual reasoning and academic consensus, or expert opinion.

2013]

Economic Law & Banking Regulation

13

However, as was stated earlier, relying on the wisdom of experts to determine where or how legal policy should be implemented poses its own problems, such as the aforementioned qualitative and quantitative ones. There are additional difficulties associated with the fundamental nature of the scientific method of inquiry - the need for observations and a systematic way to test ones hypothesis. The obstacles associated with the scientific method diminish the chance that the market failure will even be identified to begin with, at least before it has been able to significantly influence economic conditions. The scientific method necessitates systematic empirical observation or experimentation to present an objectively compelling argument for or against policy. However, policies are typically enacted in reaction to a disastrous event, rather than formulated before the event has occurred. For example, the U.S. government enacted the regulatory provisions establishing the FDIC during the bank failures of the Great Depression. It is hard to imagine that it would have had the foresight to do so during the 1920s when the economy was doing well. Thus we find that when the State cannot create economic law based on custom, economic law becomes largely reactionary. Given some calamitous sequence of events, regulation is imposed to reconstruct what was damaged and to help avoid future disaster. Yet there are problems with waiting for calamity to strike in order to offer scientifically backed policy recommendations. One can only speculate how many jobs would be lost and public services dismantled while the economists collect their data points. Even worse, periods of unusual economic stability may cause selective amnesia, where the purpose of particular regulation becomes less clear and the public quickly forgets why it existed to begin with. Coupled with the concerted effort on the part of the finance industry to induce and promote this selective amnesia wherever it may help restore the legality of certain profit-seeking behaviors, we find ourselves with one of the major problems facing bank regulation today. However, the debates raging within political and academic circles today have pre-existing data points; their roots are

14

BRANDEIS UNIVERSITY LAW JOURNAL

[Vol. 4

in the legacy of the Great Depression. This legacy must be addressed before going any further. During the 1930s, the United States, as well as the majority of the world, experienced a severe economic contraction, commonly known as the Great Depression. Policy advocates in Washington, D.C. struggled to understand precisely what was happening to the economy. According to orthodox economic theory, what was happening should not have been possible; how could it be that industry was grinding to a halt yet thousands of unemployed people were eagerly searching for work? The legacy of the Great Depression sent fissures throughout the field of economics and is in no small part responsible for the litany of schools and theories that prevail within academic circles today. While there were still debates over what exactly would best address the situation, there was some consensus regarding one thing; the role of financial intermediaries within the economy was highly underestimated and in sore need of reevaluation by the public sector. This prompted new regulation, and although many policies regarding the functions of banks emerged during this time period, the most notable and frequently discussed today is the Glass-Steagall Act, also known as the Banking Act of 1933. The Glass-Steagall Act was originally part of President Roosevelts New Deal and was enacted as a response to the bank failures rippling through the country during the Great Depression. Among its many provisions, it tasked the Federal Reserve with greater regulation of banks and created the FDIC to insure bank deposits with a sum of money sequestered from those very same banks. Perhaps most significantly, the law also prohibited commercial banks from engaging in investment business. 4 Why this was the most significant element of the Glass-Steagall Act is not obvious; at face value there is no intuitive reason to believe that a financial institution holding public deposits should not engage in investment banking, especially when these practices often lower the cost of credit in the economy by diffusing risk and
4 Glass-Steagall Act (1933), N.Y. TIMES (Apr. 13, 2013), http://topics.nytimes.com/topics/reference/timestopics/subjects/g/glass_steagall_act_1933/index.htm l?offset=0&s=newest.

2013]

Economic Law & Banking Regulation

15

thus keeping premiums down. However, a lack of separation between commercial and investment banking is one of the most financially disruptive situations an economy can find itself in, especially when little regulatory oversight exists. This is because it skews the incentives of deposit-holding institutions such that the most profit can be made when loans, safe or not, are originated, packaged and gambled on in the world of investment. To understand this, one must first understand what it means for a bank to securitize its assets. Beginning sometime in the early 1900s, commercial banks began creating security affiliates, or divisions dedicated to managing the new and growing securities market. Banks came to the realization that the profitability of lending was largely constrained by access to capital and the size of their balance sheets. Thus began a shift away from lending and holding loans and toward the magnificent innovation of securitization - originating loans, packaging them and selling them to investors, typically through investment banks (Petroff, 2010).5 The expansion of banks into security underwriting continued until the infamous stock market crash of 1929. Many economists believe that the activities of these security affiliates created artificial market conditions and that the prices of the securities did not reflect their true value; the assets underlying the security were far riskier than they appeared. Economists such as Hyman Minsky have argued that this contributed to excessive issuing of credit and the accumulation of a private debt bubble, with the whole structure of the investment strategy largely resembling a pyramid scheme.6 With the value of these assets inextricably linked together (what is referred to as contagion), failure to respond to this debt bubble and the debt deflation that followed instigated the conditions that culminated in the Great Depression.

Eric Petroff, The Rise and Fall of the Shadow Banking System, INVESTOPEDIA (Oct. 11, 2010), http://www.investopedia.com/articles/economics/10/shadow-banking-system.asp. 6 HYMAN P. MINSKY, THE FINANCIAL INSTABILITY HYPOTHESIS (Social Science Electronic Publishing, Inc. 2013) (1992).

16

BRANDEIS UNIVERSITY LAW JOURNAL

[Vol. 4

The result of numerous bank failures was that public confidence in the financial system reached an all-time low.7 GlassSteagall was largely interpreted as a means of restoring public confidence by ensuring that banks had to follow safe practices. This required forcing the separation of commercial and investment banks by preventing commercial banks from underwriting private securities, although they could still underwrite U.S. Treasury and federal agency securities as well as municipal or state generalobligation securities. Conversely, investment banks were prohibited from receiving deposits, a practice reserved for commercial banks. There were also regulatory mechanisms put in place to monitor bank health, such as capital and liquidity requirements, reserve ratios, and general transparency requirements regarding day-to-day activities. However, the separation of commercial and investment banking was by far the most significant intervention on the part of the federal government to prevent such a catastrophic market failure from reoccurring.

IV. THE FREE-MARKET HYPOTHESIS: WHY PEOPLE ARE MORE IMPORTANT THAN DODD-FRANK
Glass-Steagalls primary directive of restoring public confidence worked, but perhaps a bit too well. Some economic historians came to believe that commercial bank security practices during the 1900s did not in fact influence the already-troubled U.S. economy, and they used various macroeconomic models (such as the monetarist one) to demonstrate why.8 This school of economic thinking instead blamed the Federal Reserve for what it did and did not do, gaining momentum as the scars of the Great Depression began to fade. Many economists came to believe that GlassSteagall was never necessary to begin with, and this idea permeated intellectual culture, largely supported by a financial industry eager to see the restrictive laws repealed so business could return to being unregulated.
Glass-Steagall Act, supra note 4. MILTON FRIEDMAN & ANNA JACOBSON SCHWARTZ, A MONETARY HISTORY OF THE UNITED STATES, 1867-1960 (Princeton University Press 1971).
7 8

2013]

Economic Law & Banking Regulation

17

Congress ultimately succumbed to the influence of the alliance between finance and academia and in 1999 passed the GrammLeach-Bliley Act (GLB). While the new act did not make any significant changes in the types of transactions and practices banks, brokers or insurance companies could engage in, it repealed GlassSteagalls restrictions on bank and securities firm relationships, opening the door once more for the integration of commercial and investment banking. The act also amended the Bank Holding Company Act to allow greater mobility among financial services companies with regard to their affiliations with one another. The objective of the act was to modernize the financial sector, and it was justified with the usual economic jargon (economies of scale, adverse selection, etc.).9 For the first time in almost seven decades, commercial banks could return to the business of originating and securitizing loans. Barely one decade after that, the system collapsed yet again. Following the economic recession of 2008, the political right and left quickly formed camps regarding the repeal of GlassSteagalls separation clause. While the far left heavily attributed the subprime mortgage crisis 10 to the disintegration of this prohibitive law, the far right steadfastly held to the notion that GLB had nothing to do with the current economic crisis, and instead looked to other sources of blame. This debate has largely colored the current discussions regarding new banking regulation and the potential for new provisions that might curtail securities underwriting. This debate is about more than just one government act; at its core, it is a debate about the free market hypothesis. After all, to assert that the government must intervene and prevent certain kinds of transactions is to simultaneously assert that the financial market cannot be left to its own devices. This subtext has been inescapable in all serious discussions of new and improved banking regulation. For this reason, the repeal of Glass-Steagalls separation clause has caused a great deal of argument regarding its effect on the
Act, supra note 4. Ryan Barnes, The Fuel That Fed The Subprime Meltdown, INVESTOPEDIA (Feb. 26, 2009), http://www.investopedia.com/articles/07/subprime-overview.asp.
9 Glass-Steagall 10

18

BRANDEIS UNIVERSITY LAW JOURNAL

[Vol. 4

current economic downturn. The controversy has been fueled by the polarizing nature of the debate. The argument has been largely characterized by one side claiming GLB is fully responsible for the current downturn, the other side claiming that it is not at all responsible, and a few people scattered in between who dejectedly suggest some middle ground. Essentially, the discussion has mutated into an argument over blame, where some have come out in condemnation of the banking sector while others have come out in support of it. Those who would condemn the banking sector are in essence rejecting the claim that those in support of it make: that an unregulated financial market is the most efficient. Bank supporters argue, for instance, that you cannot blame the banks for fraudulent loan originations because those were the fault of brokers. The counterargument is that this is an incomplete interpretation; you cannot solely blame the brokers, since they could not have funded the loans if banks had not been willingly buying their risky products. Another common argument is that since no big banks failed during the crisis, they could not have been the cause of the problem. Critics of this argument point out that the reason big banks did not fail was that they were bailed out by the government, and if they had not been bailed out they certainly would have failed as their balance sheets were inundated by bad loans and underwater home equity lines of credit. 11 Yet another common argument in favor of the banking sector places the blame on the failure of non-banks such Lehman Brothers and Bear Stearns (large financial institutions that do not fall under the legal definitions of a bank), none of which would have come under Glass-Steagalls restrictions to begin with. However, this conveniently ignores the fact that non-banks receive much of their funding from banks through mortgages, repurchase agreements and other extensions of credit. Without these credit channels, the nonbanks would not have been able to leverage themselves.12

James Rickards, Repeal of Glass-Steagall Caused the Financial Crisis, U.S. NEWS (Aug. 27, 2012), http://www.usnews.com/opinion/blogs/economic-intelligence/2012/08/27/repeal-of-glasssteagall-caused-the-financial-crisis. 12 Id.

11

2013]

Economic Law & Banking Regulation

19

In the wake of the 2008 financial crisis and the disagreements surrounding what to do about the banking sector, lawmakers hurried to draft legislation that would reign in the economic collapse and hopefully address the main concerns about its cause. The result was the 2010 Dodd-Frank Wall Street Reform and Consumer Protection Act, an 8,800-page law that expanded the role of government to oversee various components of the finance sector, including areas such as insurance, and even the purchase of debit cards. 13 Unfortunately, greater government control over certain financial sectors may not be in practice the panacea it seems to be in theory. According to a new book produced by the Mercatus Center of George Mason University, titled Dodd-Frank: What It Does and Why Its Flawed, Dodd-Frank may in fact be unintentionally encouraging many of the market failures it was drafted to avoid. One of the books primary concerns is that DoddFrank seems complacent about the fact that some companies are large enough (and their activities thus inextricably woven throughout the economy) that their collapse would cause cataclysmic contagion throughout the entire financial sector. The book asserts that Dodd-Frank addresses this by legislating regulatory overreach that ensures government protection for the too big to fail category of businesses. If an institution is designated as systemically important, it is anticipated that, in the event of mismanagement, the institution will be rescued. This encourages negligence and risk-taking on the part of the financial industry, which is ultimately gambling with taxpayer money. The negative externality produced by excessive risk mismanagement is thus left almost entirely unaddressed by the law. According to Hester Peirce, a senior research fellow at the Mercatus Center, Dodd-Frank is overly intricate, and may produce inconsistency in many industries. Peirce maintains that Congress was more concerned with doing something rather than doing something right.14 Part of the problem is that Dodd-Frank created new regulatory agencies like the Bureau of Consumer Financial
13 Carten Cordell, Will Dodd-Frank Trigger a New Financial Crisis?, REASON.COM (Jan. 13, 2013), http://reason.com/archives/2013/01/13/will-dodd-frank-trigger-a-new-financial. 14 Id.

20

BRANDEIS UNIVERSITY LAW JOURNAL

[Vol. 4

Protection and expanded the role of existing ones like the Securities and Exchange Commission, but never clearly delineated the rules these agencies were to actually enforce. Another issue is that while Dodd-Frank may be responsible for many new financial regulations, the law does not address the housing industry, which played a prominent role in the financial crisis. Ultimately, the biggest criticism of Dodd-Frank is that it does little more than place confidence in and grants power to the Federal Reserve to identify and appropriately address the natural risk of failure within the marketplace, without actually prohibiting most of the risky behaviors in the first place. The language of the document is such that it does little to calm those with fears of another financial crisis. Many of the instances where one would see the term risk used in reference to securing financial stability are preceded by an affirmation of one institution or anothers responsibility to supervise, analyze and make recommendations on said risk. The act goes to great lengths to establish a Financial Stability Oversight Council, and examines a compendium of circumstances under which this council should make policy prescriptions. Just as in the UN General Assembly, there is a big difference between making recommendations and having the power to enforce them. The Oversight Council has no such authority, and indeed was never intended to; it is little more than another regulatory agency that has little enforcing power. Instead, the authority to take decisive action was imparted on the Board of Governors of the Federal Reserve. In Section 121 of the legislation, the Board of Governors, in relation to a potential threat to financial stability brought about by a bank holding company with consolidated assets of $50 billion or more, is granted the authority to (1) limit the ability of the company to merge with, acquire, consolidate with, or otherwise become affiliated with another company; (2) restrict the ability of the company to offer a financial product or products; (3) require the company to terminate one or more activities; (4) impose conditions on the manner in which the company conducts one or more

2013]

Economic Law & Banking Regulation

21

activities among other regulatory provisions.15 The catch is that there are no clearly delineated practices that compel the Board to take these actions. In addition, any action requires that the Board has had an affirmative vote of no less than 2/3 of the voting members of the Council. That there are no automatic safeguards or explicitly prohibited behavior is more of a concern for some than others. One would need to be profoundly cynical to assert that the Federal Reserve will choose when and how to apply its regulatory powers so as to best benefit Wall Street. However, one does not have to be as cynical to believe that certain dispositions may influence the consistency with which the Board exercises its authority. It should not be overlooked that a lack of prohibitory laws in the aftermath of the most significant financial meltdown since the Great Depression (which was responded to with prohibitions) is an unsettling notion. Dodd-Franks expansion of government oversight does little to ameliorate these concerns, especially when one further considers the percentage of former bankers working as key officials at regulatory institutions and vice versa. The emerging picture is not exactly an optimistic one. The historical record seems to indicate that economic law is largely reactionary, looking to build smoke detectors in a house already on fire. This suggests that some of the most effective regulation may be counter-cyclical. That is, regulation should be more stringent when things are actually going well. Unfortunately, this is largely contrary to human nature, which can be overly optimistic when it comes to market conditions and often assumes naively that upward trends can continue indefinitely into the future. The second problem is that even if it could be agreed upon that new regulation is required, the drafting of that regulation becomes muddled by partisan goals and ambitions. The banking sector has armies of scholars at its disposal to provide the intellectual edifice upon which its lobby for deregulation can stand, while the public that is affected by their practices has comparatively little academic support, save for a few non-profit research institutions not funded
15

DoddFrank Wall Street Reform and Consumer Protection Act (Pub. L. 111-203, H.R. 4173).

22

BRANDEIS UNIVERSITY LAW JOURNAL

[Vol. 4

by corporations. While the arguments of these corporate-backed scholars are not intrinsically wrong, they are grossly overrepresented in the political mainstream. The fact remains that finance constitutes an ever-increasing proportion of the American economy, and the resulting concentration of wealth leads to an enormous concentration of political power. With little to no custom upon which to base regulatory practices, our society is forced to rely on the discourse between experts, but the significant imbalance of resources means this dialogue does not occur on an even playing field. Another problem is the public. The new regulations and protections of the 1930s were not put into place out of generosity; they were borne out of a real fear that unless public confidence in the financial sector could be restored, the masses of unemployed and disgruntled people could constitute a significant political and social movement. The business sector understood that the ramifications of such a movement could be much more harmful to their balance sheets than the concessions made in Glass-Steagall. Today, despite a few popular movements, 16 public sentiment is nowhere near as radical as it was in the 1930s, and the aforementioned existential threat to the financial industry is largely nonexistent. Given the revolving door career trajectory of many politicians, it is unlikely that they will act counter to the interests of what may very well be their future employers without serious public pressure. So long as the situation remains this way, regulation of the banking sector is a pipe dream - difficult both in theory and in practice, and unlikely to generate real change. For now, the solution is to accept that there is enough blame to go around; borrowers were reckless, investors were complacent and the Federal Reserve encouraged the situation with practically unlimited lines of credit. Good economic laws can be put in place, such as the provisions of Glass-Steagall that separated commercial and
The Occupy Wall Street movement has been the most prolific in recent news, and although this movement has been effective in bringing the issue of economic inequality front and center, the disjointed organization of the movement has thus far seemed to limit the efficacy with which it has influenced the current political scene. Time will tell how this develops.
16

2013]

Economic Law & Banking Regulation

23

investment banking. However, one cannot turn a blind eye once the system begins to improve and suddenly deem the laws unnecessary or outdated. Bona fide regulation of the financial sector must be carried on the back of an educated public that understands the importance of reigning in financial speculation and uses this understanding to put pressure on the government to implement regulation where it is lacking and leave it be where it is currently serving a purpose. Governments can regulate banks, but if democratic governments are truly an emanation of public will, the push to regulate must first and foremost exist within the public. In essence, laws pertaining to finance must transcend the realm of complex prohibitory policies based on expert opinion and enter the domain of customary economic interactions readily accessible to the average individual. This is no small measure, and most likely cannot be achieved before a radical shift in consumer consciousness occurs, with a new focus on long-term sustainability over short-term profit, and a rejection of complacency even when the economic situation seems promising. Only then can public oversight of finance be meaningfully obtained. What the source of this shift in consciousness will be is outside the realm of this discussion, but given the current trajectory of U.S. financial law, the sooner our society embraces such a shift, the sooner consumers will demand smarter economic choices and prevent the next financial meltdown.