ON: Examining the Impact of the Volcker Rule on

Markets, Businesses, Investors, and Job Creation

TO: House Committee on Financial Services,

Subcommittee on Capital Markets, Securities, and
Investment

BY: Thomas Quaadman, Executive Vice President, Center

for Capital Markets Competitiveness, U.S. Chamber of
Commerce

DATE: March 29, 2017

1615 H Street NW | Washington, DC | 20062

The Chamber’s mission is to advance human progress through an economic,
political and social system based on individual freedom,
incentive, initiative, opportunity and responsibility.
 The U.S. Chamber of Commerce is the world‟s largest business federation,
representing the interests of more than three million businesses of all sizes, sectors,
and regions, as well as state and local chambers and industry associations. The
Chamber is dedicated to promoting, protecting, and defending America‟s free
enterprise system.

More than 96% of Chamber member companies have fewer than 100
employees, and many of the nation‟s largest companies are also active members. We
are therefore cognizant not only of the challenges facing smaller businesses, but also
those facing the business community at large.

Besides representing a cross-section of the American business community with

respect to the number of employees, major classifications of American business—e.g.,
manufacturing, retailing, services, construction, wholesalers, and finance—are
represented. The Chamber has membership in all 50 states.

The Chamber‟s international reach is substantial as well. We believe that global

interdependence provides opportunities, not threats. In addition to the American
Chambers of Commerce abroad, an increasing number of our members engage in the
export and import of both goods and services and have ongoing investment activities.
The Chamber favors strengthened international competitiveness and opposes artificial
U.S. and foreign barriers to international business.

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 Good morning Chairman Huizenga, Ranking Member Maloney and members
of the Subcommittee on Capital Markets, Securities and Investments. My name is
Tom Quaadman, executive vice president of the Center for Capital Markets
Competitiveness (“CCMC”) at the U.S. Chamber of Commerce (“Chamber”). The
Chamber is the world‟s largest business federation, representing the interests of more
than three million businesses and organizations of every size, sector, and region. I
appreciate the invitation to testify today on behalf of the businesses that the Chamber
represents.

It is an honor to be invited and testify at today‟s hearing: Examining the

Impact of the Volcker Rule on Markets, Businesses, Investors and Job
Creation. This is the latest in a series of hearings on the impact of the Volcker Rule
upon the financial system and the broader economy.

The Chamber opposed the Volcker Rule at the outset because of the
foreseeable negative consequences of the rule, such as restricting market-making and
underwriting activities, which in turn impact the ability of businesses to obtain the
financing needed for short-term operations and long-term growth. Instead the
Chamber proposed higher capital standards as an alternative means to achieve the
intent of the Volcker Rule—more financial stability but without the regulatory
complexity that can harm growth.

Today we have both—the Volcker Rule and higher capital standards. The
Volcker Rule has imposed upon financial institutions a complex web of regulatory
compliance. Basel III and systemic risk rules have created higher capital standards
through opaque processes that make it difficult for the public to truly understand the
strength of those firms. This has created incentives whereby firms do not provide the
financing they have in the past.

The Volcker Rule has, in combination with other initiatives such as the Basel
III Capital Accords, systemic risk rules, the foreign bank operation rules, risk
retention rules and new money market fund rules harmed the ability of businesses to
affordably raise the financial resources needed to operate on a daily basis and grow.
Business financing is now more inefficient. Furthermore, the lack of economic
analysis by the regulators in drafting the Volcker Rule is a prima facie instance of why
evidentiary analysis, subject to public scrutiny and comment, is necessary for the
drafting and implementation of regulations that may promote stability and growth.

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 It is important that policy makers review all of these rules individually and on a
cumulative basis to determine the impact it has on stability and growth. Moreover,
under President Trump‟s Executive Order on Core Principles for Regulating the United
States Financial System, laws and guidance to determine if they promote the core
principles of fostering growth and enabling U.S. competitiveness, the Volcker Rule
should be thoroughly examined. Following such a review action should be taken to
address the unintended consequences of the Volcker Rule by repealing it, or
undertaking the efforts necessary to amend it. We believe that this hearing is an
important first step in starting that process.

Background

Proprietary trading occurs when a financial firm buys and sells stocks, bonds,
or other financial instruments, on its own trading account, with the purpose of
profiting from market movements. It has been widely acknowledged, including by
financial regulators themselves, that proprietary trading was not a cause of the 2008-
2009 financial crisis. Nevertheless, some commentators, including former Federal
Reserve Chair Paul Volcker were uneasy that banks were engaging in what they felt
were not traditional banking activities that they felt might implicate the banks insured
deposits. On January 21, 2010, President Barack Obama proposed a ban on
proprietary trading and named it after former Federal Reserve Chairman Paul Volcker,
its chief architect. The Obama Administration requested other nations to follow suit,
which was universally rejected.1 The Obama Administration supported the Rule‟s
enactment despite the universally recognized fact that it would be exceedingly difficult
to demarcate the lines between proprietary trading and other important bank activities
like market making and underwriting.

The Volcker Rule was incorporated into the Dodd-Frank Wall Street Reform
and Consumer Protection Act (Dodd-Frank Act) at the 11th hour. There was exactly
one hearing on the Volcker Rule. During that hearing, in the Senate Banking
Committee, serious doubts were voiced on a bipartisan basis as to how this Rule
could be implemented. Mr. Volcker, one of the two witnesses at that hearing, was
unable to articulate a method for delineating proprietary trading and other trading
activities such as market making. Despite the lack of a hearing record establishing the
need for the Rule, it was incorporated in the Senate version of the Dodd-Frank Act
and became law.

1 See E.U. Ministers to Resist Obama‟s Proposal for Banking Overhaul, Bloomberg News, Feb. 16, 2010.

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 Section 619 of the Dodd-Frank Act prohibits financial firms from engaging in
proprietary trading and acquiring or retaining any ownership interest or sponsorship
of a hedge fund or private equity fund. Additionally, Section 619 included exemptions
for market-making and underwriting activities, risk-mitigating hedging and the sale or
disposition of financial obligations of the United States.

On October 11, 2011, the Board of Governors of the Federal Reserve

(“Federal Reserve”), Federal Deposit Insurance Corporation (“FDIC”), Securities and
Exchange Commission (“SEC”), Office of the Comptroller of the Currency (“OCC”)
(also collectively as the “regulators”) voted to release a joint Volcker Rule Proposal.
This joint rulemaking, encompassing 298 pages and over 1,000 questions, was
published in the Federal Register on November 7, 2011. The Commodity Futures
Trading Commission (“CFTC”) voted to release its version of the Volcker Rule
Proposal on January 11, 2012, almost 90 days after the other regulators. The agencies
approved and promulgated the Volcker Rule on December 9, 2013. The deadline for
covered firms to comply with the Volcker Rule was July 21, 2015.

Since that time we have witnessed a tightening of debt markets whereby

traditional buyers of debt and securities have failed to come forth.

Chamber Concerns with the Volcker Rule

The Chamber opposed the Volcker Rule at its inception because of its potential
to negatively impact the market-making and underwriting activities needed for
businesses to access liquid debt and equity markets. In the alternative the Chamber
proposed higher capital standards as a means to promote financial stability if a
covered financial institution chose to engage in proprietary trading.

Market makers play an essential role in financial markets, acting as a source of

liquidity that keep markets vibrant and make investing feasible. As market makers,
banks must hold inventories of the financial instruments in which they make markets.
For example, corporations rely upon the “market making” activities of banks in order
to secure affordable funding in the bond market. Without these “market making”
activities, banks would be unable to underwrite these bonds. Thus, if banks can no
longer hold inventory, it will be much more difficult for businesses to raise the
amount of capital needed. Typically, banks will hold bonds in inventory that aren‟t
sold in the marketplace on day one but later in the week. as under the Volcker Rule,
however, this temporary inventory build-up is considered proprietary trading and
therefore deprives issuers from raising the total amount of capital needed.

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 It is very difficult to distinguish between market making and proprietary trading
without arbitrarily imposing a demarcation. The Volcker Rule significantly constrains
their ability by dictating how banks should manage their inventory. This will reduce
the depth and liquidity of our capital markets.

Bank trading activities are what create market liquidity and enable the market to
provide an efficient clearing price. Without these activities, markets take a giant step
backward toward individually negotiated bilateral „deals‟. Investors would no longer
be willing to risk their capital in securities that in exigent circumstances would have to
be sold at fire sale prices.

The Chamber submitted 14 letters2 to the regulators and other agencies to raise
our concerns with the Volcker Rule. Those concerns highlighted process irregularities
especially the failure to conduct an economic analysis subject to public review and
conduct, and sought post-promulgation action to address adverse consequences with
trust preferred securities (“TRUUPS”) and collateralized loan obligations (“CLOs”).
In summary the Chamber expressed seven major concerns regarding the Volcker Rule
implementation proposed by the regulators:

1) The Chamber was concerned how the Volcker Rule proposals were released
and believed that comment process has been compromised as a result;3

2) The Chamber believed that serious issues and deficiencies exist with the
economic and cost benefit analysis used by the regulators;4

3) In releasing the proposed Volcker Rule, regulators failed to take into

consideration the adverse impacts the proposal will have on the ability of
companies to raise capital;

2 See comment letters of October 11, 2011, November 17, 2011, December 15, 2011, January 17, 2012, February 13,
2012, February 14, 2012, April 16, 2012, November 16, 2012, September 25, 2013, November 7, 2013, November 25,
2013, December 4, 2013, January 14, 2014 and March 4, 2014 from the U.S. Chamber of Commerce to the regulators
and FSOC.
3 See October 11, 2011 letter from the CCMC to Treasury Secretary Timothy Geithner requesting that the Financial

Stability Oversight Council use its authority to reconcile differences in the various Volcker Rule Proposals issued by the
regulators; November 17, 2011 letter from CCMC to the regulators requesting a withdrawal and re-proposal of the
Volcker Rule because of the failure of the CFTC to issue its proposed rule in conjunction with the other regulators.
4 See December 15, 2011 letter from the CCMC to the regulators citing flaws with the cost benefit and economic

analysis of the Volcker Rule Proposal, requesting that the proposal be submitted for enhanced economic analysis under
OIRA review, that it be considered an economically significant rulemaking and that the regulators coordinate these
efforts under Executive Orders 13563 and 13579. This letter also requested that the cumulative impact of other
initiatives, such as Basel III, be taken into account when determining the economic impacts of the Volcker Rule
Proposal.

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 4) The Volcker Rule will force commercial companies that own banks to build
and maintain compliance programs though they have never engaged in
proprietary trading;

5) The Volcker Rule creates ambiguity as to permissible market making and

underwriting, thereby increasing risk and reducing liquidity for companies;

6) The Volcker Rule places the American economy at a competitive

disadvantage and may in fact violate existing trade agreements; and

7) The Volcker Rule Proposal may endanger infrastructure projects and the
businesses that work on them by impacting the ability of State and
Municipal governments and agencies to raise capital.

Issues before the Promulgation of the Volcker Rule

a. Failure to Perform an Economic Analysis, Chamber Survey of Members

In proposing the Volcker Rule the regulators did not conduct an economic
analysis. The OCC issued an economic analysis over 4 months after the Volcker Rule
was promulgated, finding that the costs to 46 OCC regulated institutions could be as
high as $4.3 billion dollars. Despite the Chamber‟s request, as is discussed in greater
detail below, the regulators did not study the impacts of the Volcker Rule upon the
broader business community nor was it treated as a major rulemaking decision.

An economic analysis of the costs and benefits of a proposed regulation on

those affected by it is a critical tool in a regulator‟s tool box.5 Cost-benefit analysis
provides discipline to rulemaking so that rules are narrowly tailored to the problem
they are designed to address. It also encourages the consideration of less costly
alternative approaches.

An agency‟s failure to undertake economic analysis is more than a missed

opportunity. The lack of adherence to express congressional instructions to consider
certain costs and benefits is itself a violation of the Administrative Procedure Act, and
it increases the possibility that the resulting rule will be found arbitrary and
capricious.6 For example, in 1996, Congress amended the Securities Exchange Act to
require the SEC to consider a proposed rule‟s economic impact on efficiency,
5 See Paul Rose and Christopher J. Walker, The Importance of Cost-Benefit Analysis in Financial Regulation, U.S. Chamber of
Commerce (2013).
6 See 5 U.S.C. § 706(2).

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competition, and capital formation, in addition to its preexisting duty to consider the
impact on investor protection.7 In the years that followed, the SEC failed to take that
mandate seriously, often claiming in a perfunctory way that it had “considered” the
costs and benefits of a proposed rule and thus satisfied the statute even though it did
not publish its analysis. It was not until a series of decisions by the United States
Court of Appeals for the District of Columbia that the SEC began to undertake and
publish its economic analysis when it proposes a rule.8

Despite the clear language of the Riegle Community Development and

Regulatory Improvement Act of 1994 (the “Riegle Act”), the banking regulators did
not perform an economic analysis of the Volcker Rule. Like the SEC, the Federal
Banking Agencies are required to consider the costs and benefits of their proposed
rules, albeit with respect to different metrics. Section 302 of the Riegle Act provides:

[i]n determining the effective date and administrative

compliance requirements for new regulations that impose
additional reporting, disclosure, or other requirements on
insured depository institutions, each Federal banking
agency shall consider, consistent with the principles of
safety and soundness and the public interest: (1) any
administrative burdens that such regulations would place
on depository institutions, including small depository
institutions and customers of depository institutions; and
(2) the benefits of such regulations.9

In implementing the Volcker Rule, which is designed to minimize the risks of

proprietary trading on the federally insured deposits of a financial institutions, the
banking regulators failed to undertake a legally mandated a cost-benefit analysis
required of a proposed rule that may negatively impact the insured depository
institutions that the rule is intended to protect.

7 15 U.S.C. § 77b(b) (“Whenever pursuant to this subchapter the Commission is engaged in rulemaking and is required
to consider or determine whether an action is necessary or appropriate in the public interest, the Commission shall also
consider, in addition to the protection of investors, whether the action will promote efficiency, competition, and capital
formation.”); accord 15 U.S.C. § 78c(f) (same); 15 U.S.C. § 80a-2(c) (same); 15 U.S.C. § 80b-2(c) (same).
8 See Bus. Roundtable v. SEC, 647 F.3d 1144, 1148 (D.C. Cir. 2011) (chastising the SEC “for having failed once again—

as it did most recently in American Equity Investment . . . and before that in Chamber of Commerce—adequately to
assess the economic effects of a new rule”); Am. Equity Inv. Life Ins. Co. v. SEC, 613 F.3d 166 (D.C. Cir. 2010);
Chamber of Commerce v. SEC, 412 F.3d 133 (D.C. Cir. 2005).
9 12 U.S.C. § 4802.

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 On December 15, 2011, the Chamber wrote to the regulators asking that a cost
benefit analysis of the Volcker Rule be undertaken for public review and comment.
The Chamber letter requested that the Volcker Rule:

 Be considered under the requirements of Executive Orders 13563 and 13579

in order to coordinate different requirements for economic analysis and
finalization of rules;

 Be considered an economically significant rulemaking and the public

provided with a qualitative and quantitative analysis of the impacts upon the
economy as required by the Unfunded Mandates Reform Act of 1995
(“Unfunded Mandates Reform Act”);

 Be subject to an enhanced Office of Information and Regulatory Affairs

(“OIRA”) regulatory review process; and

 Be considered in the context of other initiatives, such as Basel III, and other
pertinent Dodd-Frank Act rulemakings, when determining the economic
impacts

This letter also included a survey of Chamber members demonstrating the

impacts of the proposed Volcker Rule upon non-financial businesses (see appendix
A). The letter stated in part:

While much of the focus of the Volcker Rule Proposal has

been on financial institutions, there are significant costs to
non-financial companies that have not been contemplated
by the regulators. To illustrate these impacts, included as an
appendix to this letter is a survey that uses 2010-2011
historic data, of select U.S. financing companies that
provide services for non-financial businesses. It appears
that the Volcker Rule will impose at least a five basis point
increase in bid-ask spreads. In a confidential survey of five
large U.S. borrowers, it estimates that under the Volcker
Rule Proposal increase in the bid-ask spreads will be closer
to 25-50 basis points increasing lending costs from between
$742 million and $1.483 billion. In reviewing Volcker Rule
impacts upon potential lending strategies for smaller less
frequent borrowers, hypothetical scenarios suggest an
increase in bid-ask spreads will be closer to 50 and 100

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 basis points leading to increased lending costs of between
$106 million and $211 million.

Also, in discussions with our membership it appears that

there will be an impact upon switching transactions—the
process whereby a financial institution buys back some of
an issuer's older bonds as part of the process for a new
issuance. For example, a 10 basis point increase caused by
the Volcker Rule would increase the costs of switching
transactions by $2.8 million per billion while a 50 basis
point increase would drive up costs by nearly $14 million
per billion.

Taken together, by extension, with $8 trillion of corporate

debt outstanding and that approximately $7 trillion trades
in a year, the incremental transaction costs for investors
and financing costs for U.S. companies could total into the
tens of billions of dollars.

These discussions with our members provide a snap shot

of potential costs facing non-financial companies because
of just one provision of the Volcker Rule Proposal. Other
provisions will also markedly affect liquidity in the financial
markets and will increase the costs associated with raising
funds for both financial and non-financial firms throughout
the economy.

Had the regulators conducted such an analysis and heeded the information
the Chamber provided, some of the consequences of the Volcker Rule and other
regulations currently interacting with it may have been avoided.

b. Chamber Study: Consequences of the Volcker Rule

In 2012 the Chamber also released a study, The Economic Consequences of

the Volcker Rule (“Thakor study”), authored by Professor Anjan Thakor of the Olin
School of Business, Washington University in St. Louis. (Attached as Appendix B).
The study had four major findings:

1. The Volcker Rule will have a negative effect on market making and liquidity
provisions for many securities.
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 2. The Volcker Rule will reduce network benefits of market making for
financial institutions and businesses.

3. The Volcker Rule is likely to lead to higher costs of capital for businesses
and potentially lead to lower capital investments by borrowers creating
greater potential focus on short-term investments.

4. The Volcker Rule will make bank risk management less efficient, adversely
impact the structure of financial institutions and harm the ability of
businesses to raise capital.

The Thakor study found that financial firms were expected to retrench their
market making activities away from smaller issuances. Businesses were expected to
find a lower level of financial services activity and less liquidity. Market makers in
securities operate in networks and any retrenchment will harm the general network
benefits that all for the sale of securities. The reduction of those network benefits
would be felt even if other non-Volcker regulated entities undertook market making
activities. Reductions in liquidity and regulatory uncertainty will lead to higher costs
of capital. Therefore, capital expenditures by businesses are of a shorter duration for
a quicker payoff. Failure to have longer-term capital investment could lead to jobs
loses. By artificially constraining the instruments a financial firm may hold, banks may
have to accept more risk or operate with more cash. This will harm the diversification
of financial firms and harm the ability of businesses to raise capital.

Unfortunately, many of the findings of the Thakor study are coming to fruition
as the Volcker Rule has become fully operational.

Issues Arising Since the Promulgation of the Volcker Rule

In 2016, the Chamber released a survey of more than 300 corporate finance
professionals. The report, Financing Growth: The Impact of Financial
Regulation (“Survey”), (attached as Appendix C) found that 79% of treasurers felt
that financial services regulation had impacted their business. One-third of treasurers
expect the regulatory impact to worsen over the next three years. Treasurers believe
that current and pending regulations will make their cash flow and liquidity operations
more challenging. One third of these companies are being forced to take
unanticipated steps in response to regulatory challenges and businesses are being
forced to pass the impact of those costs on to their customers. This survey also

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found that businesses had dramatically reduced the number of financial institutions
they have used since 2013.

Treasurers stated that the regulations most negatively impacting them were the
Volcker Rule, Basel III, SIFI regulations and SEC money market fund reforms.

In previous testimony the Chamber warned that one of the responses to the
Volcker Rule would be an increase in the cash reserves that American businesses feel
compelled to hold. American businesses have traditionally benefitted from liquid
financial markets that enable them to put capital to work rather than holding
excessive, dormant reserves. It has given American businesses a competitive
advantage over their counterparts in the European Union. Recent regulatory
developments have forced American businesses to take more of a European Union
approach to finance. While U.S. cash reserves have not hit the ratios held by their
European counterparts, U.S. corporate cash reserves rose by $100 billion since the
Volcker Rule has been implemented. Cash at the S&P 500 has risen by over 50%,
hitting all-time highs since the Dodd-Frank Act was passed.

Even though corporate bond issuances have increased, bond market liquidity
has decreased with fewer dealers and less market making activity. This has led to
unexplained stresses in the marketplace. A 2016 CFA Institute found that over a five
year period liquidity in high yield investment grade corporate bonds had decreased,
there were fewer dealers in the market place, there has been an increase in the time
needed to execute a trade, trades are smaller in volume and there was an increase in
unfilled orders. The CFA study also found that no liquidity issues existed for
government bonds.

A 2016 Federal Reserve study (attached as Appendix D) looked at stress events

in the corporate bond market. This study found that bond dealers regulated by the
Volcker Rule had changed their behavior by decreasing their market making behavior.
Because those dealers make up the preponderance of the marketplace, the Volcker
Rule was found to have caused less liquid bond markets during times of stress.

Accordingly, businesses are forced to deal with a longer time horizon in

meeting their needs and use a more inefficient marketplace which also creates the
incentive to use alternative means of financing including the use of cash reserves.
This also has an impact on the overall economy as less cash is deployed for
productive purposes.

Many of these issues may have multiple causes, but the Volcker Rule is
undoubtedly a contributory and exacerbating factor. In failing to use evidentiary tools
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available to them to write the regulation, financial services regulators missed the
opportunity to discover these problems before the rule was implemented. That is why
the Chamber proposed using the conformance period as a time to “war game” these
issues. Unfortunately, this was not done.

These impacts of the Volcker Rule as still working their way through the
system and there is time to fix them.

Chamber Recommendations

The confluence of the Volcker Rule and other uncoordinated rule-makings

such as those implementing Basel III, the risk retention provisions of the Dodd-Frank
Act, systemic risk policies and money market reforms have created stress within the
financing mechanisms for businesses. Financial firms now must deal with complex
compliance structures that make the deployment of capital either more difficult or
more expensive. For smaller companies, certain financial products or services may be
unaffordable or altogether unavailable.

While the Chamber still believes that the Volcker Rule should be repealed, we
also recognize that there are those who would like to see some form of the Volcker
Rule remain in place. Additionally, we must have a better and clearer understanding
of these major initiatives and how they interact with each other. Simply put, the
Volcker Rule cannot be viewed in a vacuum; it must also be viewed in conjunction
with other major rulemakings.

Accordingly, the Chamber recommends the following as a threshold to

determine if an outright repeal of the Volcker Rule or a modification of it is the right
course of action:

1. Conduct an economic analysis of the Volcker Rule to include the impacts

on business financing as well as the consequences for financial institutions.
It is important that the regulators understand how the Volcker Rule is
affecting the customers of those financial firms. This analysis should also
factor in the influences that the Volcker Rule may have on economic
growth.

2. Conduct an analysis of major regulatory initiatives undertaken since the

financial crisis to determine how they interact with each other and the
economic consequences of those actions. This analysis should include, but
not be limited, to: the Volcker Rule, risk retention rules, money market fund
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 regulations, Liquidity Coverage Ratio Rule, Net Stable Funding Ratio Rule,
Total Loss Absorbency Coverage Rule, the Foreign Bank Operations Rule
and capital rules and other rules promulgated under section 165 of the
Dodd-Frank Act.

3. Following these studies, the regulators should report to Congress if the

Volcker Rule and others should be repealed outright or amended.
Regulators should then proceed with appropriate rulemaking to achieve
those goals.

4. Congress and the Administration should take steps to ensure that banking
regulators conduct an economic analysis with all rulemakings as required
under the Riegle Act and the Administrative Procedures Act.

Conclusion

I appreciate the opportunity to appear before the subcommittee on such an

important topic. The Volcker Rule, though well intentioned, has harmed the ability of
non-financial businesses to operate and grow. These adverse impacts are exacerbated
when combined with other initiatives. Additionally, the manner in which the Volcker
Rule was written demonstrates flaws in the rule-writing process. Indeed this is an
example of why a data driven, evidentiary based, transparent rule-writing process is
needed to achieve the goals outlined by Congress in the least burdensome manner
possible.

Our recommendations are common sense solutions to get the facts necessary
to determine the path forward—repealing the Volcker Rule or at the very least a
holistic and wholesale revision of the Volcker Rule as well as Basel III, the risk
retention rules, systemic risk policies, the Foreign Bank Operations Rule and money
market fund reforms. Such an exercise can develop policies that will promote both
financial stability and economic growth. We look forward to working with all parties
and stakeholder in achieving those goals.

I am delighted to discuss these issues further and answer any questions you
may have.

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