The Volcker Rule: Complexity trumps common sense

by Allan Sloan,

Great sound bites often make for bad policy, because things that seem wonderful and simple in the abstract frequently turn out to be hideously complicated when you try to apply them in real life. That’s my takeaway from the Volcker Rule, which was unveiled in mid-December after five different federal financial regulatory agencies — another example of real-world complexity — finally signed off on it.

The rule has 71 pages, which is a lot of words to transform former Fed chairman Paul Volcker’s simple-sounding proposal into law. His idea, as you probably know, was to ban big financial institutions from putting taxpayers at risk by using federally insured deposits for securities speculation. But the rule itself is only the start of the complexity. It comes with an 892-page explanation. Combine the two parts and you have an opus half again as long as the New Testament, and one that to regular people might as well be written in the original Greek.

Ever since Volcker first enunciated his idea in early 2009, I’ve been skeptical of it because he didn’t propose to stop banks from making markets in securities on behalf of their customers. Market making requires buying and selling securities, and keeping some on hand as inventory. Differentiating between these trades and trades made for a bank’s own account is devilishly difficult, if not outright impossible.

Throw in the fact that banks will be allowed to trade in order to hedge exposures to various things, and you’ve got complexity squared. Heck, complexity cubed. Or to the fourth power.

The solution to the problem that the Volcker Rule tries to address is what I call the Hoenig Rule: a 2011 proposal by Tom Hoenig, then head of the Kansas City Fed and currently vice chair of the Federal Deposit Insurance Corp., to ban banks from all trading. However, unlike Volcker, who was an adviser to President Obama and is treated by many people (not including me) as a quasi-divine being, Hoenig’s name carries little clout in Washington. The Hoenig Rule would need some tweaking, but it starts out way superior to Volcker.

The Volcker Rule is better than nothing, but it’s just not worth the effort and expense expended on it or the problems it has caused and will cause.

I’m all in favor of clarity and simplicity, which I consider my stock in trade. But as Volcker shows, transforming simple-sounding ideas into legislation isn’t simple. Proposing solutions is one thing. Writing laws is a lot more difficult.

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