Sunday, April 15, 2012

US Senator Fears that Proposed Volcker Regulations Could Negatively Impact Small Banks and Market Liquidity

While recognizing that the Volcker Rule ban on bank proprietary trading is a critical component of Congress' efforts to reform Wall Street following the financial crisis, Senator Robert Casey (D-PA)said that the final regulations implememting the Volcker Rule must recognize the different levels of risk posed by different types of institutions. In a letter to the SEC and other financial regulators, Senator Casey feared that the draft regulations may have an unintended, negative effect on small banks by requiring banks who do not engage in covcred trading activities to establish a compliance program "designed to prevent the banking entity from becoming engaged in such activities."

These compliance requirements could impose a significant cost and may result in some smaller banks seeking to be acquired by larger institutions that could provide the infrastructure needed to manage compliance. Such mergers would not only eliminate the local control of banks, said the Senator, but would also continue the trend towards larger institutions that helped create too big to fail. He urged that the SEC and banking agencies minimize the compliance burden on small banks in the final regulations.

The Senator is also concerned with how the draft rule's impact on market liquidity will affect individual investors. While he understands that there are difficulties in differentiating between legitimate market-making activities and prohibited proprietary trading,he is concerned that the draft as written will curtail legitimate trading, constraining market liquidity for assets that rely heavily on dealer market-making, such as bonds. If a significant reduction in liquidity were to occur, he warned, it would likely reduce the value of investments and increase transaction costs.

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