The Atlantic: What's inside America's Banks Part III: Volcker Rule

In their lengthy Atlantic piece, Frank Partnoy and Jesse Eisinger look at the impact of transparency on the Volcker Rule.

Regular readers know that your humble blogger has been saying that there are two parts to each regulation:  what the regulation says and how it is enforced.  I use the Volcker Rule as an example and have said that it could be written in two paragraphs.

Paragraph one says that banks are not allowed to engage in proprietary trading.  Paragraph two says that banks must provide ultra transparency and disclose on an ongoing basis their current global asset, liability and off-balance sheet exposure details.  With this data, market participants can assess whether the banks are complying with paragraph one.

Lo and behold, Mr. Partnoy and Eisinger agree with my solution for implementing the Volcker Rule.

What if legislators and regulators gave up trying to adopt detailed rules after the fact and instead set up broad standards of conduct before the fact? 

For example, consider one of the most heated Dodd-Frank battles, over the “Volcker Rule,” named after former Federal Reserve Chairman Paul Volcker. The rule is an attempt to ban banks from being able to make speculative bets if they also take in federally insured deposits. The idea is straightforward: the government guarantees deposits, so these banks should not gamble with what is effectively taxpayer money. 

Yet, under constant pressure from banking lobbyists, Congress wrote a complicated rule. Then regulators larded it up with even more complications. They tried to cover any and every contingency. Two and a half years after Dodd-Frank was passed, the Volcker Rule still hasn’t been finalized. By the time it is, only a handful of partners at the world’s biggest law firms will understand it. 

Congress and regulators could have written a simple rule: “Banks are not permitted to engage in proprietary trading.” Period. ... 

Legislators could adopt similarly broad disclosure rules, as Congress originally did in the Securities Exchange Act of 1934. The idea would be to require banks to disclose all material facts, without specifying how.... 

 As for the details, banks could voluntarily provide information on their Web sites, so that sophisticated investors had enough granular facts to decide whether the banks’ broader statements were true. 

As the 2008 financial crisis was unfolding, Bill Ackman’s Pershing Square obtained the details of complex mortgages and created a publicly available spreadsheet to illustrate the risks of various products and institutions. Banks that wanted to earn back investors’ trust could publish data so that Ackman and others like him could test their more general statements about risk.