The further you go in the direction of loosening up capital requirements, the higher the risk of another financial crisis, according to a senior economist from the Peterson Institute for International Economics.
"The general direction of the House bill and the Treasury proposals are to make things easier for banks rather than have a higher capital requirement," William R. Cline told Anadolu Agency in a recent interview.
The House of Representatives recently passed a bill called the CHOICE Act, which stands for Creating Hope and Opportunity for Investors, Consumers, and Entrepreneurs. The bill aims to roll back some of the financial rules implemented under Dodd-Frank Wall Street Reform Act of 2010 after the 2008 financial crisis.
The Dodd-Frank reforms, which were signed into law by former President Barack Obama, implemented certain regulations on the banking industry to stabilize the financial system in order to prevent new crises.
President Donald Trump, however, promised during his campaign he would roll back some of the Obama-era regulations on finance, banking and energy to boost economic growth. Excessive regulation costs the American economy as much as $2 trillion a year, Trump claimed many times.
"It seems to me that they are going toward slightly loosening the capital requirement whereas I'm saying that it should be tightened some, but nearly as much as some people advocate," Cline noted.
"The international agreement under so-called Basel III says that the big banks need to hold about 10 percent of their risk-weighted asset as equity capital," he said.
Cline, in his new book "The Right Balance for Banks: Theory and Evidence on Optimal Capital Requirements" calculated the optimal capital requirement should be more around 13 percent.
While the largest U.S. banks are already voluntarily holding a cushion of 2-3 percent over the Basel III requirements, Cline argued this should be made the required minimum.
However, he stressed that there was no need to enact higher capital requirements, such as 30-50 percent of risk-weighted assets as some academics suggested, due to the burden it would create for the economy.
"Our production capacity depends on how much capital stock we built up and if we make capital expensive, the economy will not build up as much capital and we'll be poor," he explained.
Cline said that although he thought the move towards simplification made "quite a bit of sense," such as focusing the Volcker rule on the largest banks, "one has to be careful that it does not turn into a general loosening of the requirements for bank safety".
Part of the Dodd-Frank Wall Street Reform Act of 2010, the Volcker rule aims to prevent banks from engaging in certain speculative investments which contributed to the 2008 crisis.
