A Wrongheaded Take on the Effects of Dodd-Frank

From Reuters, on Wednesday:

Banking rules meant to protect the U.S. financial system from collapse are not harming the economy or damaging financial markets, the chairman of the Federal Deposit Insurance Corp said on Wednesday, contrary to the views of industry groups.

U.S. regulations requiring banks to toughen underwriting standards and pull back from some risky lending in the wake of the 2008 financial crisis have not harmed the economy, said FDIC Chairman Martin Gruenberg.

Bank loans are growing faster than gross domestic product while lending to the commercial and industrial sector is outpacing an important measure of corporate borrowing, he said.

“I believe the evidence suggests that the reforms put in place since the crisis have been consistent with, and supportive of, the ability of banks to serve the U.S. economy,” Gruenberg said during a luncheon in Washington. [Emph. added.]

So the head of the FDIC says that the post-Dodd-Frank banking regulatory regime hasn’t crimped credit creation or slowed economic growth. This is, in a word, delusional. Loans may be growing faster than GDP lately, as Gruenberg says, but that says more about the pathetic rate of economic growth since the end of the recession than it does about the rate the banking industry is writing new loans. In fact, loan growth coming out of this past recession has been the slowest—by far—than it was following any recession in the past 40 years. Take a look:

There are many reasons why loan growth has been so sluggish, but surely a main one is the newly restrictive regulation that has been imposed on the banking industry in the wake of Dodd-Frank. Everything from mortgage lending to card lending is simply more expensive and onerous than it used to be. So there’s been less of it than might have been otherwise.

Similarly, the returns banks are earning for shareholders—also contrary to what Gruenberg claims–have been permanently diminished. In particular, bank earnings basically stopped growing in 2013:

While the industry’s ROE has been structurally reduced:

One last point: Gruenberg elsewhere claims the liquidity in the fixed-income market hasn’t been impaired by the restrictions Dodd-Frank placed on banks’ trading ability. This is also nonsense. Look for instance, at what’s happened to Primary Dealers’ holdings of corporate debt:

Given banks’ low debt positions, just imagine what might happen to the corporate bond market the next time there’s even a minor disruption in it.

I don’t mean to pick on Gruenberg too much. Given what happened in 2008, it was clear financial regulation could stand an overhaul. I just happen to think the overhaul that happened, mainly Dodd-Frank, is a profoundly wrong-headed piece of legislation that in many ways won’t do much to prevent the next panic, and in many ways might make it worse. But for the head of the FDIC to say that the law isn’t affecting economic growth or bank profitability is plain nuts.

What do you think? Let me know!