On July 21, 2010, the Dodd-Frank Wall Street Reform and Consumer Protection Act became law and a far-reaching set of federal government mandates designed to protect against another financial crisis was set in motion. How will this legislation affect you as you attempt to move your business beyond the most difficult recession in a generation? According to the legislative summary for the bill, it will "Create a Sound Economic Foundation to Grow Jobs, Protect Consumers, Rein in Wall Street and Big Bonuses, End Bailouts and Too Big to Fail, Prevent Another Financial Crisis" (PDF). Of course, all of these objectives are desirable. What, however, will the unintended consequences of this nearly 2,300 page, complex legislation have on your business? Some analysts are concerned that the legislation is overly complicated and contains too many loopholes to be truly effective. Others see the bill as a government attempt to control free enterprise that will ultimately cause financial institutions in United States to be too risk adverse and therefore less competitive in global markets. Regardless of the opinions held by either side, it is prudent to have a greater understanding of the legal and regulatory effects that Dodd-Frank will have on your business, your financial institutions and your ability to acquire capital.
Highlights of Legislation
The main specific objectives of the Dodd-Frank legislation are sweeping in nature. According to the legislative summary, the bill seeks to:
Consumer Protections With Authority and Independence (PDF): Create a new independent watchdog, housed at the Federal Reserve, with the authority to ensure American consumers get the clear, accurate information they need to shop for mortgages, credit cards and other financial products and protect them from hidden fees, abusive terms and deceptive practices.
Ends Too Big to Fail Bailouts (PDF): End the possibility that taxpayers will be asked to write a check to bail out financial firms that threaten the economy by:
- Creating a safe way to liquidate failed financial firms;
- Imposing tough new capital and leverage requirements that make it undesirable to get too big;
- Updating the Fed's authority to allow system-wide support but no longer prop up individual firms; and
- Establishing rigorous standards and supervision to protect the economy and American consumers, investors and businesses.
Advance Warning System (PDF): Create a council to identify and address systemic risks posed by large, complex companies, products and activities before they threaten the stability of the economy.
Transparency and Accountability for Exotic Instruments (PDF): Eliminate loopholes that allow risky and abusive practices to go on unnoticed and unregulated, including loopholes for over-the-counter derivatives, asset-backed securities, hedge funds, mortgage brokers and payday lenders.
Executive Compensation and Corporate Governance (PDF): Provide shareholders with a say on pay and corporate affairs with a non-binding vote on executive compensation and golden parachutes.
Protects Investors (PDF): Provide tough new rules for transparency and accountability for credit rating agencies to protect investors and businesses.
Enforces Regulations on the Books (PDF): Strengthen oversight and empower regulators to pursue financial fraud aggressively, conflicts of interest and manipulation of the system that benefits special interests at the expense of American families and businesses.
Effect of Dodd Frank on Credit
The regulation of financial institutions is also a critical issue related to a company's access to credit. How banks are regulated can make a significant difference in how credit policy is executed. A number of financial executives believe that regulators have in some cases moved too far toward overly conservative supervision. Spencer Bachus, chairman of the U.S. House Financial Services Committee, recently said "the pendulum has swung too far toward regulatory micromanagement." This, of course, creates an obstacle to capital that would otherwise be reasonably available.
So, what will Dodd-Frank really accomplish and how will these provisions affect your company? Many financial executives have found access to credit over the past several years to be very difficult. Credit is often the life blood of many organizations, so what will Dodd-Frank do to help or hurt our chances of gaining a certain and sustainable credit availability? Most businesses that power the U.S. economy are classified as small to medium sized businesses and the ability of those businesses to obtain credit is essential. Matthew Samelson, principal and Sean Owens, director of fixed income and derivatives at Woodbine Associates, a research and advisory firm supporting the capital markets industry, say "Dodd-Frank proponents applaud new consumer protection measures and rules focused on reducing systemic risk. Opponents of the law assert the legislation is likely to result in less consumer and small-business credit availability." Those opponents believe "that greater regulation will raise business cost for smaller lending institutions, driving some out of business and resulting in less available, more expensive credit for small businesses and less creditworthy individuals, from fewer banks."
Potential Legislative Revisions
Some members of Congress believe that Dodd-Frank does contain a number of flaws. Five primary revisions are being debated. These changes include:
Ultimately, any action that reduces profits to banking entities will result in higher costs to the banks consumers as they pass along losses. We have seen this scenario play out as many banks increased fees as an offset to reduced interest income. While most financial executives certainly see the need for proper regulation of financial institutions, over-regulation by government agencies can also have a negative effect on your business.
The same concept would apply to the regulation of derivatives, which have been a significant risk mitigation or profit-making product for many banks. Reasonable regulation probably makes sense, but over regulation stifles growth in the financial sector and reduces bank margins.
At the end of the day, Dodd-Frank should be judged by the moderation those empowered by the act use in applying these new powers. The future stability of the U.S. financial system and your access to credit, including the cost of that credit, will be the best measurement of success or failure of this legislation. Take the time to discuss the effect Dodd-Frank is having on your bank with your commercial banker. Armed with more information about your lending environment, you can take your own proactive steps to help ensure access to capital.
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Ron Box, CPA.CITP, CFF, CISSP, is the chief financial officer and chief information officer for Joe Money Machinery, a Birmingham, AL.-based regional heavy construction distributor with operations in Georgia and Florida. Box also serves as chair for the 2010 AICPA Top Technology Task Force and is a member of the AICPA Certified Information Technology Professional (CITP) Credential Committee.