The sweeping financial reform bill signed Wednesday by President Obama marks an important first step toward curbing Wall Street abuses and providing increased protections for American consumers and investors.
The bill creates a bureau of consumer financial protection, reduces fees on most credit card transactions, and requires retirement and insurance advisers to act in the best financial interests of their clients.
Attention now shifts to the federal bureaucracy, where officials will write the voluminous regulations that will implement the legislation. Lobbyists from all sides of the debate will attempt to influence details of the regulations.
Here is a summary of key provisions:
- Consumer protection
An independent consumer financial protection bureau is being established to monitor credit card companies, mortgage brokers and banks to ensure that consumers get clear information about the financial products they are being sold.
The new agency, while housed within the Federal Reserve, will have its own budget, a director appointed by the president and wide latitude to write consumer protection rules and enforce them with civil penalties.
It could, for instance, compel lenders to tell you more forthrightly the risks of rate increases if you take out a mortgage with an adjustable rate rather than a fixed rate.
The agency would also create an office of financial literacy to help consumers understand the documents they sign.
While payday lenders will be subject to scrutiny from the new bureau, auto dealers won an exemption.
Credit and debit cards
The Federal Reserve wins new power to limit the “swipe” fees that merchants pay to card processors for each debit card transaction. The Fed can now ensure debit swipe fees are “reasonable and proportional” to the cost of processing transactions, a provision to take effect in one year.
Lenders may no longer issue mortgages to borrowers who are unlikely to be able to pay them off, effectively ending the practice of “stated income” or “liar loans” in which the borrower’s income is never determined. The bill prohibits lenders from offering financial incentives for “steering” customers toward expensive, subprime loans. It also prohibits prepayment penalties that locked many borrowers into unaffordable loans. Financial institutions that don’t follow the rules can be sued by consumers for interest and penalties.
The bill grants consumers free access to their numerical credit score if the score has adversely affected their ability to get a loan or a job. Previously, you could get a free credit report online, but it generally did not include the all-important score on which many credit and lending decisions are based.
The new law would attempt to force the financial industry to put the interests of the customer ahead of its own interests. “The bill really closes some loopholes and can better protect older Americans from buying high-risk or unsuitable products that they cannot afford or don’t understand,” said Mary Wallace, a senior legislative representative for AARP. “The SEC is granted the authority, at the end of a short study, to mandate that agents disclose to buyers any commissions they may be making and all the risks associated with the products the consumer might purchase.”
Prevention of another financial meltdown
A 10-member financial oversight council will be charged with identifying and responding to emerging risks throughout the financial system. The body will have the power to recommend that the Federal Reserve tighten rules on capital holdings, risk management and liquidity of companies whose failure would pose a risk to the financial system.
The Federal Reserve could demand that any large firm divest some of its holdings that pose a “grave threat” to the nation’s financial stability. This provision is intended to prevent another “too big to fail” calamity in which the federal government opts to inject huge amounts of money to save entire institutions.
The final version of the bill included a version—some say weaker—of the so-called Volcker Rule, named after former Federal Reserve Chairman Paul Volcker. This will bar banks from making risky trades with their own funds, a practice known as proprietary trading. Financial firms will be barred from betting against securities they sell to their clients.
But the provision does not strictly separate commercial banks from owning and operating hedge funds and private equity, which was originally envisioned. Banks were successful in watering down the language so that they can invest up to 3 percent of their core capital in such investments.
The $600 trillion derivatives market will face new restrictions. Lawmakers agreed to require bank holding companies to spin off their riskier derivative trading operations into separate affiliates that would not receive taxpayer bailouts if their bets blew up. But banks may continue to trade certain forms of derivatives, like those tracking interest rates, foreign exchange or gold and silver.
These limitations may crimp some of the biggest banks on Wall Street. Commercial banks took in $23 billion in revenue on derivatives trading in 2009, and some critics say that banks may start charging for once-free services now that certain streams of income are likely to dry up.
Michael Zielenziger writes on business and the economy and lives in the San Francisco Bay area.