The Fed has lightened the load on America’s banks

AMERICA’S BANKS had high hopes for Donald Trump’s presidency. Perhaps no industry had greater expectations of sweeping deregulation. On the campaign trail in 2016 Mr Trump had promised to dismantle the Dodd-Frank Act of 2010, which put in place stricter rules after the financial crisis. Wall Street seemed to believe him. Banks’ share prices rose by more than a third in the six months after his election.

Regulation has eased under Mr Trump. In a flurry of activity, the Federal Reserve has approved several rule changes in the past few days. Yet there has been no regulatory bonfire, and such changes as there have been have mainly benefited smaller banks. Big banks have done nicely nevertheless, borne up by America’s long economic expansion and by Mr Trump’s broad corporate-tax cut at the end of 2017. They also have the advantage of sheer scale, which among other things has allowed them to splurge billions on new technology. Admittedly, the third-quarter earnings season, which began on October 15th, looks unspectacular. The Federal Reserve’s interest-rate cuts are squeezing lending margins. But the giants have been on a good run; and JPMorgan Chase, the biggest of the lot, still reported an 8% rise in net profit, to $9.1bn.

Efforts to rewrite Dodd-Frank stalled in Congress. Instead a less ambitious bill, focused on easing the regulatory burden on smaller banks, was passed with bipartisan support in May 2018. The task of deregulation has therefore fallen chiefly to America’s several bank regulators—to whom, ironically, Dodd-Frank gave considerable discretion. These include the Fed, an especially important watchdog for the country’s biggest banks. They were cheered by Mr Trump’s nomination of Jerome Powell to lead the Fed in November 2017, expecting him to loosen regulations faster than his predecessor, Janet Yellen. Randal Quarles, the vice-chairman responsible for supervision, also seemed keen to change the rules. Yet the measures finalised this year by Messrs Powell and Quarles tidy up the rule-book rather than toss it out. “The process is a recalibration, not deregulation,” Mr Quarles has said.

In essence, before the financial crisis banks undertook excessive, poorly understood risks and had too little cash (to maintain liquidity) and too little equity (to cover losses) when things went badly wrong. Those problems were compounded by uncertainty about how a bank would be wound down if it failed, as Lehman Brothers did in September 2008. Regulators have since sought to tackle these problems in four main ways. First, they have imposed stricter capital and liquidity requirements. Second, the “Volcker rule” has curbed proprietary trading. Third, stress tests estimate whether banks would still have enough capital should catastrophe strike again. Fourth, banks must write “living wills” setting out how to wind down their operations quickly should the need arise.

Banks have long complained that the burden of these is too heavy. This month’s changes put into effect several adjustments proposed by Mr Quarles. On October 8th the Fed adopted a simplified version of the Volcker rule, which will take effect on January 2020. Two days later it implemented easier capital and liquidity requirements, but not for banks with assets of more than $100bn (roughly, the top 30). It also reduced the frequency with which banks must revise their living wills, from annually to every other year. Earlier this year the Fed had already made some changes to stress tests. In March it scrapped the “qualitative” element of the tests, a simple pass-or-fail assessment of operational and risk-management procedures, which banks had complained was too subjective. In June, in the most recent round of tests, it also gave banks more information about the models it used in the remaining “quantitative” element. The Fed is also poised to allow banks greater flexibility over payouts to shareholders, as long as they meet their individual minimum capital requirements.

Regulators at the Fed and elsewhere say that their aim is to “tailor” the rules, in essence applying stricter regulations to successively thinner tiers of bigger banks, rather than the same to all. Only the very largest banks will have to undergo extensive stress tests and rewrite living wills regularly, for example. The Volcker rule will apply only to banks with large security-trading businesses; America’s thousands of tiny community banks will be wholly exempt.

For the most part this is sensible. Small banks are not systemically important and could fail without much effect on the American economy (even though a collapse causes a lot of local misery). They require less oversight. There is little point applying rules to restrict trading activity to those that do not trade securities. Not all Fed officials agree. Lael Brainard, who was appointed by Barack Obama, has dissented from many of the rule changes. But they appear to be a regulators’ recalibration rather than a Trumpian trashing. Nellie Liang, a former Fed economist now at the Brookings Institution, a think-tank, reckons that many regulatory tweaks, say to the Volcker rule or stress tests, had been initiated by the Fed even before Mr Trump’s election. The rule-book was written in the middle of the crisis “chapter by chapter”, says Wayne Abernathy of the American Bankers Association, a lobby group. “It is natural to go back and make sure rules are working as intended and working together.”

All this means far more to small banks than to big ones. A senior manager at one of the largest says the Fed’s latest proposals will change little. Even in places where big banks have seen the rules trimmed—like the frequency of submitting living wills—they had already built the costly systems needed to comply. That is probably as it should be. As the boss of another Wall Street bank admits, large banks nearly felled the global economy. “Strict regulation is what we deserve.”