Anyone who has gotten a whiff of how Washington functions knows that it doesn’t work like Schoolhouse Rock!. After a bill becomes a law, the next step of turning law into reality resembles not so much a cheerful children’s civics lesson as a dark fable of corruption and rot. In particular, the combination of corporate lobbies, byzantine subject matter and—above all—captured regulators, can gut the intent of laws. No agency exemplifies this unedifying barrier to democracy better than the Federal Reserve.
It’s time to call this conduct what it is: lawless. The Fed, Wall Street’s most dependable friend in Washington, is a wellspring of extralegal behavior that contributes to the preservation and expansion of corporate power over the public interest.
The backdrop to any conversation like this one is usually the long-standing debate about whether the Fed takes seriously its dual mandate on inflation and employment as it relates to monetary policy, enshrined in the Humphrey-Hawkins Act of 1978. Ideologues like former Fed chair Alan Greenspan always downplayed the latter and talked up the former, rationalizing their position by arguing that low inflation was essential for long-term employment. Critics pushed back. And so on. A perennial, and somewhat circular, debate.
In the matter of financial regulation, the other responsibility of the nation’s central bank, the case is damning.
The Fed leadership has simply tossed out key elements of the Dodd-Frank financial reform law instituted after the crash of 2008 and substituted its own bank-friendly version, via regulation, of what the law should say. While heightening economic and financial risk, the Fed’s approach makes a mockery of how the law is supposed to operate. And it suggests that the Fed should not be let within 100 miles of financial regulation whatsoever.
The Fed is a wellspring of extralegal behavior that contributes to the preservation and expansion of corporate power over the public interest.
For example, the Fed is now ignoring the law that governs bank capital, specifically something known as the Collins Amendment. In a new paper, Graham Steele (a former assistant Treasury secretary) and Jeremy Kress (a former adviser to the Department of Justice on antitrust issues) argue that the Fed is going easy on the biggest banks in the United States because … well, because it can.
Kress and Steele, professors of law at the University of Michigan and the University of North Carolina, respectively, make a strong case that the Fed is pursuing “Extra-Legal Bank Capital Regulation.” That dryly diplomatic title undersells the paper’s bite.
“Regulators’ efforts to dismantle the post-2008 capital framework defy the Dodd-Frank Act’s plain text, hand the largest and most systemically important banks an unwarranted advantage over their smaller competitors, and increase the risk of another financial crisis,” Kress and Steele write in the paper.
As the Prospect explained recently, capital regulation is a live fight right now as the Fed’s vice chair for supervision, Michelle Bowman, seeks to water down post-crisis rules put in place to make the nation’s largest banks more resilient. Tougher capital guidelines can help mega-banks absorb losses by forcing them to fund their operations with more equity (selling shares) and less debt. Wall Street hates that arithmetic because, all other things being equal, more equity lowers share prices. And share prices are often a determinant in executive compensation.
Kress and Steele meticulously pull apart why Bowman’s plan, which Trump Treasury Secretary Scott Bessent has publicly endorsed, violates this law.
One part of Dodd-Frank, Section 165, instructs the Fed to establish enhanced standards for mega-banks with more than $250 billion in assets; it sets the principle that bigger banks get tougher treatment. To that provision, Sen. Susan Collins (R-ME) layered on two more requirements: The Fed cannot apply to any single bank rules weaker than the generally applicable ones, and it cannot dip below levels that prevailed before Dodd-Frank.
Already, the Fed has weakened an extra capital surcharge it had imposed to make sure, per Section 165, that mega-banks faced more stringent rules than others. On the Collins Amendment, to comply with the law, the Fed hitherto directed mega-banks to calculate capital levels based on two separate formulas and apply the higher result; that approach stopped big players from gaming the rules. In very broad brush, if the Fed finalizes a new rule, that tweak will allow larger banks to dip below levels achieved under the Collins Amendment, according to Kress and Steele.
Lawlessness at the Fed hardly began with capital rules. Just ask Sen. Elizabeth Warren (D-MA), who has pressed the Fed to write rules, mandated in Section 956 of Dodd-Frank, designed to limit incentive pay that encourages reckless risk-taking by bank executives.
Then-Fed chair Jerome Powell, when asked about the matter in an August 2024 House hearing, said that he “would like to understand the problem we’re solving” before proposing a draft rule. A few weeks later, Warren—fully aware of the Fed’s historical recalcitrance to regulate Wall Street—let Powell have it.
“Chair Powell, the law does not say: Jerome Powell, in his infinite wisdom, should decide if we have a problem with executive compensation,” Warren said. “The law, passed 14 years ago, says executive pay is a problem that threatens the stability of our economy, so write the rules to rein them in.”
The regulation remains unwritten.
The Fed’s willingness to flout the law can be seen throughout its implementation of Dodd-Frank. Another example is the Durbin Amendment, a provision that took a gentle swing at the problem of Visa and Mastercard’s grip on debit card transaction networks.
Sen. Dick Durbin (D-IL), mindful of Wall Street lobbying, instructed the Fed in precise detail to set a rate merchants pay when a customer uses a debit card, and to base that calculation on specific costs that banks and card networks incur for the transaction. And the Fed proceeded in 2011 to set a high rate (22 cents plus 0.05 percent for each transaction) that wrapped in a new type of cost not authorized in the law.
The Fed rationalized the outcome by inventing from whole cloth a new category of costs to be covered. Coincidentally, the move followed heavy lobbying from mega-bank CEOs at a time when the Fed’s prevailing wisdom, following the 2008 crisis, was that a profitable bank was a stable bank.
The regulation spawned a decade of litigation. Merchants only got a ruling on the merits last August, in federal court in North Dakota. The decision, written by Judge Daniel M. Traynor, a Trump appointee, found that the Fed simply chose a different outcome than Congress intended.
“Congress certainly did not hand the [Fed] a blank check of discretion that it claims to have,” Traynor wrote. The agency, it added, is trying to “override the congressionally-constructed narrow boundaries” with a legal interpretation of the Durbin Amendment’s text that has no basis in law or legislative history.
Then there’s the Volcker Rule. The much-ballyhooed provision of Dodd-Frank, named after famously stern former Fed chair Paul Volcker, aimed to bar Wall Street mega-banks from the kind of speculative trading that lay at the heart of the financial crisis. When the first Trump administration took their hammers to the Volcker Rule, no less than Paul Volcker chimed in with some choice words that exposed the lie that the Fed merely wanted to “simplify” the rule.
Invoking the influence of “well compensated industry lobbyists,” the aging Volcker called the Fed’s 2017 effort “a ploy to weaken the core elements of the reform” and a step that “should trouble anyone concerned with the eroding public trust in government.” Money talks.
None of these episodes are trivial on their own, but together they indict the entire theory behind the Dodd-Frank law that the Obama administration advocated. Obama appointees, notably Treasury Secretary Timothy Geithner, resisted or actively fought proposals to break up big banks, hive off casino-like activity from commercial finance, and cut Wall Street’s market power down to size.
In short, Team Obama staked the whole architecture of the response to the 2008 crisis on the good faith of regulators to impose tough rules on the most powerful industry in the world, finance. Asked to hold up its end of the bargain, the Federal Reserve said, in so many words, “Nah.”
