The Volcker rule prohibits American commercial banks and foreign banks that do business in the U.S. from trading for their own account. More specifically, it prevents them from owning or investing in hedge or private equity funds.
Banks are permitted to trade when it's necessary to run their business, such as to offset foreign currency or interest rate risk. They are also allowed to make trades for their customers.
Banks may also trade in U.S. government obligations, including U.S. Treasury bonds and government-backed securities issued by Fannie Mae, Freddie Mac, Ginnie Mae and other government agencies.
The Volcker rule comprises Section 619 of the Dodd-Frank Wall Street Reform and Consumer Protection Act, which became law in 2010 in the wake of the global financial crisis. However, the U.S. federal agencies responsible for overseeing it did not implement the rule until 10 December 2013, and the rule became effective on 1 April 2014.
Banks have been required to comply with the rule since 21 July 2015.
Who Is Volcker?
The rule was proposed by Paul Volcker, who was chairman of the Board of Governors of the U.S. Federal Reserve System from 1979 until 1987. He was originally appointed by President Carter and then reappointed by President Reagan. Prior to that he was president of the Federal Reserve Bank of New York. Volcker proposed the rule while he chaired President Obama's 2009-11 economic advisory panel.
Five federal agencies are responsible for implementing and overseeing the rule: The Fed, the Securities and Exchange Commission, the Commodities Futures Trading Commission, the Federal Deposit and Insurance Corporation, and the Office of the Comptroller of the Currency.
Bank CEOs must personally verify in writing that they are complying with the rule. Also, every bank employee is legally and personally liable if they aren't in compliance.
Why Is The Rule Necessary?
The Volcker rule was designed to prevent another financial crisis. Many people believe that one of the causes of the crisis was the partial repeal of the Glass-Steagall Act, the 1933 law that was passed during the Great Depression and separated commercial and investment banking. Glass-Steagall was partially repealed by the Gramm-Leach-Bliley Act in 1999 and allowed commercial banks to own investment banks. Investment banking is generally considered to be riskier, although often more profitable, than commercial banking, which largely consists of taking deposits and making loans.
The Volcker rule was seen as a way to make banks safer by preventing them from placing investment bets, especially with depositors' money that is insured by the FDIC and ultimately backed by taxpayers. Not surprisingly, many banks oppose the rule because it restricts them from engaging in what are often more profitable activities. That's why it took five years between the enactment of Dodd-Frank and the implementation of the Volcker rule, as the banking industry lobbied hard to prevent its enactment or to at least make it less restrictive.
There are currently moves being made to loosen some of the restrictions in the Volcker rule and to make it less complicated. The rule runs to more than 1,000 pages.
A Senate bill sponsored by Sen. Mike Crapo, R-Idaho, the chairman of the Senate Banking Committee, would roll back several aspects of the Dodd-Frank law, including exempting from the Volcker rule banks with less than US$10 billion in assets. That's in line with a 2017 recommendation by Treasury Secretary Steve Mnuchin.
Other recommendations would make it clearer what activities banks could legally engage in, exempt some foreign banks from parts of the rule, and appoint a single lead regulator to oversee enforcement of the rule.
Separately, Randal Quarles, the Fed's Vice Chairman for Supervision, said the Fed is looking at "broad revisions" to the rule to make it less complicated.
"I believe the regulation implementing the Volcker rule is an example of a complex regulation that is not working well," he said in a speech to an international bankers' conference in March 2018. "We would like Volcker rule compliance to be similar to compliance in other areas of our supervisory regime."
The Volcker rule is part of the Dodd-Frank Wall Street Reform and Consumer Protection Act, which was passed in 2010 in the wake of the global financial crisis. The rule prohibits banks from trading for their own account with their own or depositors' money. The rule was proposed by Paul Volcker, the former chair of the U.S. Federal Reserve Board who later chaired President Obama's 2009-11 economic advisory panel.
The rule has been criticised by the banking industry, which believes it is overly restrictive and too complicated. As of April 2018, the Fed, Congress and Trump Administration were working together to amend the rule to make it less onerous.