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Did Dodd-Frank really hurt the US economy?

Jeb Hensarling did not hold back last week, when asked on CNBC about the flaws of Dodd-Frank.

“It clogs the arteries of capitalism in our system. It hurts working people. It hurts consumers. It needs to go,” said the chair of the House Financial Services Committee, about the signature piece of financial regulation of the Obama era.

“You can’t get a healthy economy as long as you have Dodd-Frank on the books.”

The Republican from Texas is expected to present an alternative set of rules in coming days, one that could undo many of the reforms put in place seven years ago.

But is he right? Did the Dodd-Frank Wall Street Reform and Consumer Protection Act, passed in July 2010, go too far by preventing banks from lending?

The headline data do not suggest that loans are too hard to obtain. Figures from the Federal Deposit Insurance Corporation show that gross loans across the US’s commercial banks have grown pretty steadily for at least three years, spread across all categories except home-equity lines of credit and loans to other banks.

Loans were relatively flat between 2010 and 2012 but the overall stock has risen from about $7.5tn to $9.24tn since then. That is about 6 per cent a year, roughly twice the nominal growth rate of the economy.

“We’re up like everyone else,” said Wells Fargo’s finance chief John Shrewsberry at a conference in Miami last week, noting loan growth of 7 per cent last year.

“Loan growth remains robust,” said Marianne Lake, his counterpart at JPMorgan Chase, while presenting record annual net income of $24.7bn last month.

We really run a risk of rolling back the clock to the eve of the financial crisis and doing it all over again

Beyond the headlines, there are signs that certain segments have been squeezed.

In products such as credit cards and personal loans, for example, analysts say activity has been damped by fear of censure by the Consumer Financial Protection Bureau. The CFPB was one of the agencies spawned by Dodd-Frank; it enforces 19 federal consumer protection statutes covering everything from home finance to student loans, credit cards and banking practices.

Dodd-Frank ordered the agency to look out for “unfair, deceptive or abusive” practices in any financial product or service offered to a consumer.

That may have caused banks to be wary of customers on low incomes and with thin credit files, says Justin Schardin, director of financial regulatory reform at the Bipartisan Policy Center. He cites a study last year showing that customers with non-prime credit scores were awarded less than one-fifth of new credit-card accounts in 2015, down from 29 per cent in 2007.

In residential mortgages, too, banks and lobby groups complain about the new requirement to determine that the consumer has a “reasonable ability” to repay the loan, based on credit history, income, obligations, debt-to-income ratio, employment status and other information. That has caused a pile-up of paperwork.

“You used to walk out with a folder; now you walk out with a binder,” says Sushil Patel, Dallas-based president of State Bank of Texas, which has just broken through the $1bn-in-assets barrier by buying a bust bank in Chicago.

But Laurie Goodman, co-director of the Housing Finance Policy Center at the Urban Institute, a liberal think-tank, argues that other factors have had a greater effect.

Credit remains “extremely tight”, she says, because lenders are worried by the representations and warranties they need to make to Fannie Mae, the government-sponsored mortgage buyer, and the high cost of servicing delinquent loans, among other factors. None of that was in Dodd-Frank.

Small-business lending is a mixed picture too. Non-mortgage loans of less than $1m to non-farm businesses peaked at $375bn in 2007, according to FDIC data, and have since fallen to $284bn.

To Douglas Holtz-Eakin, president of the American Action Forum, a centre-right think-tank, that is a sign of the extra burdens of compliance.

You can’t get a healthy economy as long as you have Dodd-Frank on the books

But other analysts say it is hard to disentangle Dodd-Frank effects from extra caution as banks rebuilt capital; a relatively sluggish economy; and competition from a host of nonbank platforms. Some note that the main piece of Dodd-Frank targeting small-business loans ― which requires banks to collect and report more data ― has yet to take effect.

Even if the evidence of Dodd-Frank hurting bank lending is unpersuasive, says Michael Barr, a professor at the University of Michigan, that will not stop Republicans determined to unwind it.

Mr Barr, who helped craft Dodd-Frank while at Tim Geithner’s Treasury Department from 2009 to 2010, says talk of helping banks write more loans is a ruse to win support for a package of reforms that favours Wall Street more than Main Street.

He notes that lobbyists are already talking about scrapping the Volcker ban on proprietary trading, and abolishing the Financial Stability Oversight Council, which was supposed to monitor risks developing outside the deposit-taking banks.

None of this has much to do with easing the flow of credit.

Mr Hensarling’s Dodd-Frank alternative, known in its first iteration as the Financial Choice Act, is unlikely to bring “changes for the better for the country”, he says.

“We really run a risk of rolling back the clock to the eve of the financial crisis and doing it all over again.”

Via FT