Lawmakers Weigh Dodd-Frank Rollback, Raising Prospects of Deregulation and Risk for Subprime

Congressional Republicans are laying the groundwork for a partial repeal of the Dodd-Frank Wall Street Reform and Consumer Protection Act.

The changes they seek would target the law’s core systems of regulation, such as higher asset thresholds for tighter regulation and new limits on the Consumer Financial Protection Bureau (CFPB).

The bill stands an excellent chance in the Senate — it’s a bellwether of a broader deregulation plan that will have spillovers throughout consumer loan markets. Subprime lenders would probably welcome less regulation — but the freedom would arrive double-edged, bearing risk as well as opportunity.

The House Financial Services Committee voted in June to advance a slate of bills aimed at repealing post-2008-crisis bank protections.

The Federal Reserve’s discretion to designate banks as systemically significant (i.e., large enough that their failure could threaten the financial system) would be eliminated for banks with assets between $100 billion and $250 billion. The bill would also link the CFPB more closely to Congressional and judicial control.

Proponents frame the reforms as a much-needed break for the smaller banks, which seek to lend and compete more aggressively. Critics worry the reforms will provide an opportunity for the same kind of unregulated activity that led up to the 2008 meltdown.

That 2008 lesson applies to the subprime world, where lenient regulation has all too often meant rapid growth followed by precipitous decline. The CFPB, created under Dodd-Frank, has played the role of cop to abusive behavior — most prominently in auto lending, credit cards, and high-cost personal loans.

Since the last decade, the credit markets have changed through the use of guardrails such as capped fees, clearer disclosures, and Qualified Mortgage requirements. But these may be relaxed soon.

Alarms are sounding already. Subprime auto defaults have increased, and card issuers are reining in available credit as home budgets stretch to the limit. Without tighter controls, that tension can spread rapidly — leading to even higher default rates.

Nonetheless, fintechs and nonbanks, frequently beyond the purview of conventional supervisory control, have taken market share. If conventional lenders are let loose, they might go after riskier clients to compensate.

In the meantime, investor demand for securitized subprime debt is slowly coming back. Regulatory rollbacks can fan those embers if the ratings agencies relax. Fast growth may be next — but so can 2008-type shocks if risk becomes unbalanced again.

A neutered CFPB allows lenders to move more decisively into the underserved/most risky segments. Growth can soar — but so can chicanery, usurious interest rates, and borrower suffering.

For some lenders, the rollback would be a welcome relief. For consumer groups, it would be akin to surrender. Without strict regulation, they argue, unscrupulous actors would thrive at the expense of the most vulnerable borrowers.

Rep. Andy Barr of Kentucky said the CFPB is “the most unaccountable and unchecked agency in the entire federal government.” Sen. Elizabeth Warren said, “The agency is still standing and its mission to protect consumers remains as important as ever.”

These bills would likely pass the Republican-led Senate. And President Trump would be hardily inclined to sign major Dodd-Frank rollbacks. The House initiative signals a starting shot of what potentially becomes a long-term regulatory tug of war — specifically for high-risk borrower-focused lenders.

Subprime lenders would do well to keep their eyes open. When the pendulum swings in the direction of deregulation, the outcome will determine compliance requirements, marketing campaigns, and risk of legal and reputational backlash.