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Dodd-Frank at Five: A Capital Markets Swan Song

Commissioner Daniel M. Gallagher

U.S. Chamber of Commerce, Washington, D.C.

Aug. 4, 2015

Thank you, David [Hirschmann] for that overly kind introduction. I appreciate the invitation to speak to you today. This will likely be my last formal speech as an SEC Commissioner, and I can think of no better audience than the Chamber’s Center for Capital Markets Competitiveness. The Center has remained a zealous and effective advocate for capital formation and free markets during a period in which these bedrocks of our economy have constantly been under attack, and it is an honor to be here today to share my thoughts with you. It is also special to have Commissioner Piwowar here today. I would like to thank him for his friendship and collegiality during our time together on the Commission.

After four years of sprinting through a marathon course, my time at the Commission is drawing to a close. It has been an honor and a privilege to serve as a member of the Commission, and I hope my contributions have helped further the debate on how best to accomplish the mission of the SEC.

Last month marked the fifth anniversary of the Dodd-Frank Act,[1] meaning that my entire tenure as a Commissioner has occurred in the midst of the first Five-Year Plan for our national economy. And, as is always the case with grandiose central plans, Dodd-Frank has backfired, strangling our economy, increasing the fragility of the financial system, and politicizing our independent financial regulators.

* * *

While, as I’ll discuss further shortly, the Fed, FDIC and OCC were busy leveraging the financial crisis to grow their prudential empires, the SEC became the implementing tool for the long pent-up dreams of liberal policymakers and special interest groups. Indeed, Dodd-Frank stands as the only piece of major securities legislation in U.S. history that was rammed through Congress without bipartisan support.[2] Prior to the enactment of the Dodd-Frank Act, every major piece of securities legislation since the New Deal — including the Exchange Act which created the Commission, as well as the 1940 Acts, the 1975 Act amendments, the Remedies Act of 1990, NSMIA, and notably Sarbanes-Oxley — enjoyed bipartisan support. Obtaining such support for Dodd-Frank, however, would have entailed tempering the statute by legislative compromise, meaning its authors would have had to listen to competing ideas and jettison some of the “progressive” wish-list items jammed into the 2300-page behemoth.

If the SEC seems political nowadays, it is because of Dodd-Frank. Not only is it an incredibly ideological piece of legislation ill-suited to an independent agency explicitly constituted in a manner designed to ensure a bipartisan — or non-partisan — approach to regulation[3] — but it is also largely just a series of ill-formed mandates that need to be interpreted and implemented to have any practical effect. In passing Dodd-Frank, Congress delivered a message to the Commission similar to that of Henry Ford concerning the aesthetics of the Model T: “Any customer can have a car painted any color he wants so long as it is black.”

Dodd-Frank established the SEC as the scrivener for a hundred Congressional mandates stemming from one side of the political spectrum. Is it any wonder that since its passage, these mandates — ambrosia to members of one party, anathema to those of the other — have drawn out the different philosophies of the Commissioners? Is it any wonder that Commissioners from the party devoted to free market ideals chafe at being mandated to paint Congress’s Model T — or, more appropriately, their Edsel?

Dodd-Frank by its very nature has made the Commission look to the outside world like a microcosm of Congress itself. Indeed, it has called into question the very notion of “independent” agencies. In addition to politicizing the agency internally, Dodd-Frank has impaired the work of the SEC by placing it at a decided disadvantage to prudential regulators.

Just as “collectivization” served as both the means and the ends of Soviet Five-Year Plans, so too has “prudential regulation” provided additional tools for central bank apparatchiks to unleash their inner central planners in an attempt to fundamentally alter the very nature of our capital markets. This came as no surprise to some of us, as Dodd-Frank’s jurisdictional grants of authority to bank regulators were in large part the result of an unwitting Congress buying into a narrative contrived in large part by those very same regulators. The narrative held that, unlike clunky capital markets regulators like the SEC, prudential regulators were good enough and smart enough to run our economy — and doggone it, the 111th Congress liked it!

And so, Dodd-Frank created the Fed-dominated Financial Stability Oversight Counsel, or FSOC, the Fed-dominated SIFI designation process, the Fed-dominated Title VIII oversight regime for clearance and settlement, the FDIC-dominated Title II resolution process, and so on. While capital market regulators were tasked with writing long, complicated rules to interpret and implement the ill-formed mandates of the Dodd-Frank Act, prudential regulators were given greatly broadened authority over the economy. Dodd-Frank, in short, sought to make prudential regulators Masters of the Universe.

Since I became a Commissioner in 2011, I have seen the implications of this mindset play out in some very real ways. For example, while the Fed was busy proposing incredibly intrusive rules under Sect 165 of Dodd-Frank, the so-called Intermediate Holding Company rulemaking, a rulemaking that hugely impacted SEC registrants, we at the SEC were also busy — working on the conflict minerals disclosure rule. It was emblematic of the view of the SEC held by policymakers at the Fed that our staff was not consulted in a meaningful way before the Section 165 rules were proposed. To be fair, maybe the Fed was merely trying not to burden the SEC with trivial matters such as the fundamental structure of bank affiliated broker-dealers — after all, while the Section 165 rules were gestating, the Commission was making the U.S. financial markets safe by ensuring that Congolese tantalum would never again take down the likes of Lehman or AIG!

Within the FSOC, the SEC Chairman is just one vote out of 10, and together with the CFTC Chairman, one of two capital markets regulatory voices. What’s worse, as I and Commissioner Piwowar have emphasized many times in the past, these votes are the purview of the SEC Chairman, not the Commission itself. You might think this structural disproportionality would be reflected in FSOC’s vote tallies, with the capital markets regulators frustrated by their lack of voting power but holding their ground on principle. But, alas, FSOC has moved in harmony as each SEC Chairman since its inception has voted with the prudential regulators — even in the case of the Met Life designation vote, in which the FSOC’s sole insurance expert was the lone no vote.[4]

FSOC has proven to be a poor construct for monitoring and addressing potential systemic risk. To be clear, it is important to have that function, but the FSOC has clearly been the wrong way to approach it. An FSOC structured more like a regulatory college — where each organization is a member, as opposed to each regulatory head — and operated like a think tank, via the power of good ideas, backed by solid research, economics, and other science, instead of relying upon diktat, would be a good place to start.[5]

Until that happens, the SEC must be actively and publicly providing input to FSOC. The agency cannot simply go along for the ride. On this point, I have to tip my hat to Chair White for opening a comment file on the tortured OFR Report on asset managers in 2013.[6] But more is needed.

As troublesome as FSOC is, an even more dangerous charade is playing out in the international star chamber known as the Financial Stability Board, or FSB, where there are only three capital markets regulators on the thirty-five member steering committee. What’s more, the gaggle of central bankers on the FSB steering committee includes not only representatives from the European Commission, the European Central Bank, and the Basel Committee, but also central bankers from many of the individual countries that are members of these organizations.

Why is it that Spain and the Netherlands get invitations to the FSB cocktail parties, but Texas and South Carolina do not? It is a little-known fact that from 1945 to 1991, the Soviet Union had three seats in the United Nations — one for the USSR, and one apiece for the Ukrainian and Byelorussian Soviet Socialist Republics. The FSB has moved this program of selective over-representation westward, but the principle is the same, comrades. This has allowed the Europeans — for whom capital markets are much less important than the United States — and their pro-prudential regulatory cohorts in the United States to relegate their capital markets counterparts to the kids table out in the hall. Apparently, the U.S. representatives can’t, or don’t want to, stand up for capital markets.

Prudential regulation is an important tool for bank regulators to use in supervising banks’ risk-taking activities, so as to ensure that risks are limited to an acceptable level and avoid posing an undue strain on the government insurance backstop — despite the moral hazard and expectations of “no losses” that the insurance itself creates. But in practice, “prudential” regulation can and has evolved into an opaque regulatory system in which the government’s invisible hand replaces the market’s, transcending rule enforcement and becoming the decision maker for ostensibly private enterprises.

The attempts by our prudential regulators and their international counterparts to de-risk the U.S. capital markets and make them look like the banking markets are not just philosophically wrong — they are an attack on U.S. competitiveness. As I have stated before, piling more regulatory burdens on our capital markets will only cause more activity to move overseas, where up-and-coming jurisdictions in Asia and elsewhere would be more than happy to gain market share.[7] And it will stifle domestic economic activity, as companies will be forced to line up for bank loans made scarce by new bank regulations rather than pursuing capital formation opportunities in the market.

In the bubble of the beltway, regulators can come to believe that they are omniscient, that they know better than Main Street America. They are often lured by special interest groups who insist that Americans must be coddled and that private enterprise is rapacious and greedy. So it takes a special breed to resist that siren song of greater regulatory power and authority. It takes those willing to play referee, rather than God. When the SEC rotely rubber-stamps the work of the prudential regulators and their umbrella organizations FSOC and FSB, we get less vibrant markets, more government backstops, more potential bailouts.

Along these lines, I tip my hat to IOSCO Chairman Greg Medcraft, who recently had the courage to break ranks from the party line espoused by his peers in Basel in announcing his view that the asset management industry does not pose a systemic risk. Importantly, Chairman Medcraft acknowledged a fundamental truth about capital markets regulation, one that I have been loudly making since the day I became a Commissioner — that “markets are all about taking risks and should be regulated in different ways to banks.”[8] Let’s hope that his voice is not like the sound of the proverbial tree falling in the woods.

* * *

Despite these external threats to the U.S. capital markets and our regulation thereof, change must first start from within. As I have said many times over the last four years — you are what you prioritize.[9] It is more than abundantly clear that the SEC’s place in the pantheon of federal regulators cannot be taken as a right, or as immutable. We have to prove ourselves to be a smart, tough-but-fair regulator of the capital markets. It is when we are weak, or appear incompetent, that the barbarians storm the gates. And the only way for the SEC to remain a pre-eminent federal regulatory agency is for the Commission to commit to a robust and proactive agenda. With that, I’d like to share some final thoughts regarding the priorities for the main operating Divisions and Offices at the SEC.

Over the last seven years, the Division of Corporation Finance (“Corp Fin”) has unfortunately, and despite the best instincts of many key staffers, become a tool for advancing a radical shareholder rights agenda. Executive pay rules, stonewalling on shareholder proposal reform, and now the universal ballot — the Corp Fin agenda has confused protecting investor activism with protecting investors. Sometimes these two are aligned, but sometimes they are not. I am encouraged that the Chamber and other prominent organizations have banded together in the Corporate Governance Coalition for Investor Value to start challenging this dominant viewpoint.[10] Corp Fin’s commitment to review disclosure effectiveness is a positive step forward, but I also fear this will be yet one more vehicle for injecting a radical view of corporate disclosure, trying to involve information that any investor might find interesting, rather than information that a reasonable investor would find important in making an investment or voting decision — that is the heart of the SEC’s disclosure regime.

Corp Fin must also work to ensure that the opportunities inherent in our capital markets remain open and attractive to all businesses. Despite incremental improvements like Reg A+, which the Commission adopted this year,[11] small businesses are still highly constrained when it comes to capital formation, and often have no access to viable secondary markets. Indeed, many growing businesses have consciously avoided the public markets over the past decade because of the regulatory baggage that accompanies the offering regime, instead choosing the far simpler options of selling themselves or staying private. And who can blame them? Companies that go public get such “benefits” as shareholder proposals, social policy masquerading as disclosure requirements — tune in, by the way, for tomorrow’s SEC open meeting to adopt a final pay ratio rule for a textbook example of that — shareholder activists, and, best of all, creeping and continuing federal intrusion into corporate governance. Over the coming years, the manner in which Corp Fin addresses these issues will play a large role in determining whether our capital markets continue to be the engines that power our economy.

As for the SEC’s Investment Management Division, I am proud to say that it has made great strides in recent years, shepherding a nuanced money market fund rule to adoption and announcing a suite of rulemaking initiatives aimed at gathering better and more useful data in the fund space. But the Commission needs to continue to assert itself as a competent and effective overseer of the asset management industry, which has been under attack from the prudential regulators since the financial crisis. The FSOC and FSB have recently shifted their focus to the activities and products of asset managers rather than attempting the absurdity of declaring individual large asset managers as “systemically important.”[12] This does not mean, however, that they have abandoned their quest to de-risk the industry with prudential regulatory tools like capital requirements, which serve absolutely no purpose in an agency business. For the sake of the millions of investors who depend on our asset management industry, the Investment Management Division must stand its ground and defend its purview.

The Enforcement Division has done an admirable job in the wake of the financial crisis, resisting calls to storm Wall Street with torches and pitchforks while still addressing the miscreants, both large and small, corporate and individual, that plague our capital markets.

However, we need to be constantly reminded of the importance of being measured and thoughtful in exercising our enforcement authority. For example, throughout my tenure I have repeatedly called on the Commission to tread carefully when bringing enforcement actions against compliance personnel, who are often the only line of defense we have in detecting and preventing violations of the federal securities laws.[13] Recent enforcement actions holding compliance officers to a standard of strict liability will only serve to chill talented professionals from playing this vital role.[14] We also need to remain focused on affording respondents the due process rights to which they are entitled. The recent attention on the SEC’s use of administrative proceedings has fostered a healthy debate on this topic. I am confident the Enforcement Division will heed outside voices calling for introspection, such as the Chamber’s recent report in this area.[15]

And, as for my old stomping grounds — the Division of Trading and Markets (“TM” — I understand all too well the competing priorities and demands it constantly faces. But, TM must not lead from behind — or worse, fall into a reactionary role — on market structure. The Commission needs to stop dabbling around the edges on deep-in-the-weeds issues such as Rule 15b9-1 and start taking on the hard work of genuine, holistic market structure reform. And TM must be empowered to begin a comprehensive program for oversight of the fixed income markets. As I have said before in response to calls to address the issues set forth in Flash Boys, we still need to address the ones that were highlighted in Liar’s Poker…over 25 years ago!

A number of areas of TM’s oversight are woefully outdated and in need of attention. Commissioners have publicly called for reforms of the transfer agent rules[16] and the settlement cycle.[17] There is a long list of other needed reforms, such as a finalization of the Rule 15a-6 amendments. We should also be questioning why the SEC does not have regulatory authority over the markets for treasuries and over municipal debt issuers, given their overwhelming importance to the capital markets. And it is long past time that the Commission re-think the SIPC regime and work with Congress on needed updates to SIPA. These are critically important issues that have needed to be addressed for years, but unfortunately they have taken a back seat to Dodd-Frank mandates that have nothing to do with the financial crisis or the Commission’s mission.

I have been glad to witness over the course of my tenure the transformation of the Division of Economic and Risk Analysis (“DERA”) from a start-up enterprise to a vital Division with its own purpose and priorities. DERA staff are critical to analyzing the costs and burdens associated with the Commission’s rulemakings, which all too often have failed to accurately take into acct the crippling and cumulative costs being placed on issuers and market participants. I hope DERA is able to bring on more staff and continues to be integrated into the sausage making factory called SEC rulemaking. And, the Office of Compliance Inspections and Examinations, or OCIE, has also come a long way since its low point following the financial crisis, and they will hopefully get a boost with third party investment adviser examinations. As with DERA and ENF, OCIE must continue to work with the policymaking divisions, and resist the urge to undertake rulemaking through examinations.

* * *

Notwithstanding the many concerns I have set forth today, I remain optimistic about the SEC’s future and I believe that the agency is in a much better position than it was four years ago. The agenda is still all too dominated by the nonsense of Dodd-Frank, and the agency’s place in the financial services regulatory constellation is still too low. However, there are hopeful signs of life and indicia that the SEC will go back to its roots: allowing disclosure to inform investors and preserve investor choice; letting the market, rather than regulation, decide winners and losers; and using appropriate discretion in exercising its power.

There appears to be a renewed understanding on the Commission of the critical importance of updating existing programs instead of continuing the Dodd-Frank death march of rulemaking. And some capital markets regulators are finally speaking out about the importance of capital markets to investors and the global economy. These are issues I raised in my first speech as a Commissioner — in this building — in 2011. They were important then and critical now.

Thank you for your attention, and thank you to the Chamber for inviting me here today.

[1] Dodd-Frank Wall Street Reform and Consumer Protection Act, Pub. L. No. 111-203, 124 Stat. 1376 (July 21, 2010).

[2] A mere 6 Republicans voted for the Act in the House and Senate combined: Sen. Snowe (ME), Sen. Collins (ME), Sen. Brown (MA), Cong. Castle (DE), Cong. Cao (LA), Cong. Jones (NC). Data from GovTrak, available at

[3] Other so-called “independent” agencies are feeling their own strains, as the Administration looks to push hugely-controversial policy positions over the objections of minority commissioners at these independent agencies. While the FTC and FCC are being hit hard now, the SEC has been taking body blows for 5 years now. Nonetheless, it helps prove out the trend: when nonpartisan independent agencies have room to set their own agendas and pursue projects based on their expertise and judgment, independent agencies function well and smoothly; when they are compelled to implement a politically partisan policy or policies, an independent agency will become more political.

[4] See Dissenting Statement of Roy Woodall, FSOC Independent Member (Dec. 18, 2014), available at

[5] In the early stages of the legislative process, FSOC was actually conceived as a collegial council of regulators — an expanded and formalized version of the President’s Working Group on Financial Markets, which had served for over two decades as a consultative group for the harmonization of financial market regulatory policy and the facilitation of communications between U.S. financial regulators. See Benton Ives and Phil Mattingly, Geithner Outlines Regulatory Overhaul, CQ Weekly (Mar. 28, 2009), available at 2009 WLNR 6351182 (discussing Senator Dodd’s call for “a council of regulators” that could “watch for systemic risks” with the help of “a professional staff that could analyze systemic risk”); see also Industry Backs Multi-Agency Approach on Risk, Compliance Reporter (May 22, 2009), available at 2009 WLNR 26668110 (noting that certain ex-SEC officials and senior industry professionals “backed a council of regulators approach for overseeing risk”) (noting one idea for “a framework in which a council of agencies could act more as an oversight body than as a regulator”). However, the FSOC that emerged from the final legislation was vastly different — a federal bureaucracy dominated by an executive branch cabinet secretary and prudential regulators with unprecedented and extraordinary regulatory powers.

[6] See Public Feedback on OFR Study on Asset Management Issues, SEC Rels. No. 2013-208 (Sept. 30, 2013) (announcing opening of SEC comment file on OFR Report), available at OFR’s analysis was so flawed that I felt compelled to register my objections in a letter to the comment file. Commissioner Daniel M. Gallagher, Letter to SEC Comment File on OFR Report (May 15, 2014), available at

[7] See, e.g., Commissioner Daniel M. Gallagher, Can the U.S. Be an International Financial Center (Jan. 13, 2015), available at

[8] Greg Medcraft, Chairman, International Organization of Securities Commissions, IOSCO and the international reform agenda for financial markets, Speech to the National Press Club (June 22, 2015), available at

[9] Commissioner Daniel M. Gallagher, The Importance of the SEC’s Rulemaking Agenda — You Are What You Prioritize (Oct. 24, 2014), available at

[10] See U.S. Chamber of Commerce, Center for Capital Markets, Letter to Chair White Announcing the Corporate Governance Coalition for Investor Value (July 2, 2015), available at

[11] U.S. Securities and Exchange Commission, Rel. No. 33-9741, Amendments to Regulation A (Mar. 25, 2015).

[12] Financial Stability Oversight Council, Notice Seeking Comment on Asset Management Products and Activities (Dec. 24, 2014) (announcing shift in focus to the products and activities of asset managers), available at; Financial Stability Board, Next Steps on the NBNI G-SIFI Assessment Methodologies (July 30, 2015) (same), available at

[13] See, e.g., Commissioner Daniel M. Gallagher, Remarks at The SEC Speaks in 2012 (Feb. 24, 2012) (cautioning against holding compliance personnel liable for failure to supervise), available at; Remarks at The 2013 National Compliance Outreach Program for Broker-Dealers (Apr. 9, 2013) (noting expanded scope and complexity of compliance function at regulated entities and resulting increase in potential liability for compliance personnel), available at; Introductory Remarks at The Evolving Role of Compliance in the Securities Industry Presentation (May 12, 2014) (addressing increasingly important role of compliance function at regulated entities), available at

[14] See, e.g., Commissioner Daniel M. Gallagher, Statement on Recent SEC Settlements Charging Chief Compliance Officers With Violations of Investment Advisers Act Rule 206(4)-7 (June 18, 2015), available at

[15] U.S. Chamber of Commerce, Center for Capital Markets, Examining U.S. Securities and Exchange Commission Enforcement: Recommendations on Current Processes and Practices (July 2015), available at For additional, thoughtful analysis of this topic, see also Andrew N. Vollmer, Professor of Law and Director of the John W. Glynn, Jr. Law & Business Program, University of Virginia School of Law, Four Ways to Improve SEC Enforcement (July 30, 2015), available at

[16] Commissioners Luis A. Aguilar and Daniel M. Gallagher, Statement Regarding the Need to Modernize the Commission’s Transfer Agent Rules (June 11, 2015), available at

[17] Commissioners Michael S. Piwowar and Kara M. Stein, Statement Regarding Proposals to Shorten the Trade Settlement Cycle (June 29, 2015), available at

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