Systemic risk control: it's up to the banks

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by Roy C. Smith

After two years of effort, the US Congress last week gave President Obama a massive and very ambitious financial reform bill, the Dodd-Frank Act, to sign.

The 2,300 page law in 15 sections affects all financial service activities in various ways but it does little to improve systemic risk control. It strengthens the hands of regulators, but relies on them entirely to identify and avert future crises, things they have not been successful in doing in the past.

Too-big-to-fail financial firms (those with more than $50bn of assets, of which there are about 40 in the US) are largely left alone, free to be as large and complex as before.

However, if one of these financial firms faces a liquidity crisis in the future, which is likely given their aggressive business strategies, rescuing it with taxpayer funds to avoid a systemic crash will be much more difficult. Precluding bailouts when they are necessary will severely limit the government's ability to manage the next crisis.

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The Dodd-Frank Act, signed into law in July 2010, represented the most significant and controversial overhaul of the U.S. financial regulatory system since the Great Depression. Forty NYU Stern faculty, including editors Viral V. Acharya, Thomas F. Cooley, Matthew P. Richardson, and Ingo Walter, provide a definitive analysis of the Act, expose key flaws and propose solutions to inform the rules’ adoption by regulators, in a new book, Regulating Wall Street: The Dodd-Frank Act and the New Architecture of Global Finance (Wiley, November 2010).

About Restoring Financial Stability

Previously, many of these faculty developed 18 independent policy papers offering market-focused solutions to the financial crisis, which were published in a book, Restoring Financial Stability: How to Repair a Failed System (Wiley, March 2009).

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