Point-Counterpoint: The Repeal of Section 716 of the Dodd Frank Act
Section 716 of the Dodd Frank Act of 2010 was repealed as part of the budget bill late last year. There seems to be confusion as to what the repeal means. This blog will break down the issues on both sides of the argument in general terms.
What is the Dodd Frank Section 716 “push-out” rule?
The “push out” rule (Section 716) called for banks to move their uncleared derivatives out of their heavily regulated albeit FDIC insured banking divisions and placed into an affiliated structure. It’s estimated the “push out” rule covered roughly 5% of the notional amount of swaps outstanding.
Dodd Frank Section 716 Repeal was a bad idea:
One of the goals of the Dodd Frank Act was to prevent future bank failures from being bailed out by the taxpayers. Moving derivatives contracts out of a bank’s FDIC insured entity would mean the taxpayer wouldn’t be on the hook in the event of another credit crisis.
FDIC insurance covers the deposits (up to a cap) of the bank. If the bank uses those deposits as collateral for their swaps positions and the bank runs into trouble the depositors will need to be made whole by the FDIC, thus the taxpayers ultimately picking up the tab. To learn more about FDIC Insurance, click here
Dodd Frank Section 716 Repeal was a good idea:
Removing the positions from the banks books into an affiliate would remove them from stringent regulatory oversight. Further, pushing those positions into another entity would result in higher implementation costs and ongoing capital charges on those positions. Higher costs have to be covered somehow.
Lastly, although the bank could decide to push the positions into another US-regulated entity there would be nothing to preclude them from transferring the positions into an offshore or non-US entity. Either way, this creates a lack of transparency as well as regulatory oversight. Two of the issues Dodd Frank sought to resolve.
Pushing positions out into an affiliate doesn’t remove or limit systemic risk. In the event the bank runs into problems having the positions in another entity or another country could make unwind more costly. Depending on how the bank builds up to their consolidated numbers, the increased cost of unwind could end up adding to overall systemic risk, not reducing it. Systemic risk is the main issue Dodd Frank sought to resolve with the TBTF entities.
There are many side issues to each point of view. But I wanted to provide a birds’ eye view of the primary issue(s) each side of this debate presented. To read each sides view in greater detail, see resource below or contact MHDS.
AGAINST REPEAL OF SECTION 716:
FOR REPEAL OF SECTION 716: