Big banks shouldn't act like hedge funds by making dangerous bets that can ruin the economy.
That's the principle behind the Volcker Rule, a controversial part of the post-crisis Wall Street reform. The rule prohibits banks like Goldman Sachs or JPMorgan from making risky wagers with their own money and bans them owning big stakes in hedge funds or private-equity firms.
The banks hate it. Wall Street has bitterly complained about the Volcker Rule for years, arguing it's overly complex and does more harm than good. With Republicans gaining control of Congress and the White House, this key part of Dodd-Frank financial regulation could soon be weakened or be placed on the chopping block.
The rule was named after legendary Federal Reserve chairman Paul Volcker, who came up with the idea and fought hard to include it in Dodd-Frank.
But recently, the push to defang the Volcker Rule received support from an unlikely source: the Federal Reserve itself, which is also the chief regulator of the big banks.
Staffers at the Fed studied whether it was easy to buy and sell bonds during times of stress, a critical feature for the smooth functioning of financial markets, known as liquidity. The December 22 research paper found that the 2015 implementation of the Volcker Rule had a harmful effect on corporate bond liquidity.
Firms subject to the Volcker Rule become "less willing to provide liquidity during stress times," the paper concluded.
It's a critical finding, especially considering the 2008 financial crisis was worsened by a liquidity crunch.
"That Fed report really does give ammunition to opponents of the Volcker Rule," said Bloomberg Intelligence financial policy analyst Nathan Dean.
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Deregulation hopes lift bank stocks
While the Fed research was conducted by staffers, policymakers don't often oppose their own staff findings.
"This is the regulator dropping bread crumbs to Congress to act," said Thomas Michaud, CEO of Keefe, Bruyette & Woods, an investment bank that specializes in financial services.
Michaud said the 2008 meltdown has resulted in too much "heavy regulation" and "penalties" for banks.
"All you need is to move it into neutral to have a positive effect. It's a lot like my golf game -- It just needs to be less bad," he said.
Investors are betting that's exactly what will happen. Hopes of deregulation, in addition higher interest rates and tax cuts, have sent bank stocks skyrocketing since Donald Trump's victory.
Morgan Stanley (MS) stock has surged 26% since the election, while Goldman Sachs's (GS) huge rally accounts for nearly one-quarter of the Dow's post-election gains. These are just two of the big banks that would benefit from Congress defanging the Volcker Rule.
Related: Big banks counting on love from Trump and Fed
Volcker backers: Don't forget Bear Stearns
Defenders of financial reform warn against the Volcker Rule disappearing.
"Hedge fund-like gambling should not be permitted in the banking space," said Marcus Stanley, policy director at Americans for Financial Reform, a nonprofit coalition pushing for Wall Street accountability.
He pointed to the infamous Bear Stearns hedge fund division that imploded in 2007 after making bad bets on real estate. The failure triggered a loss of confidence and heavy losses for Bear Stearns. Less than a year, later Bear was the first Wall Street firm to collapse during the financial crisis.
"We are very concerned about the repeal or dialing back of the Volcker Rule," said Stanley.
GOP blueprint calls for Volcker Rule repeal
If the Volcker Rule does get watered down, it would likely be part of a broader rewriting of Dodd-Frank.
The Financial Choice Act, a key bill championed by House Financial Services Chairman Jeb Hensarling, calls for repealing the Volcker Rule entirely.
Analysts say the bill wouldn't get through Congress as currently written, but it serves as a key blueprint for efforts to rewrite Dodd-Frank.
Its success could hinge on whether Democrats are willing to negotiate. Elizabeth Warren and other champions of Wall Street reform could impede such a bill by choosing to filibuster.
Liberal groups are already signaling they will fight to keep the Volcker Rule.
The Progressive Change Campaign Committee told CNNMoney that overturning the rule would be "blatant proof that Trump favors corporate profits at the expense of American working families."
Related: Trump wants to unshackle Main Street banks
Trump could choose not to enforce Volcker Rule
Of course, big banks wouldn't object to getting rid of the Volcker Rule.
"We're not specifically pushing for the elimination of it, although it's fine if that happens," Francis Creighton, head of Wall Street lobbying group Financial Services Roundtable, told CNNMoney.
Creighton complained that the Volcker Rule has led to "massive costs inside financial institutions that make it harder to serve customers."
He said concerns about banks betting with their own money -- a practice known as proprietary trading -- have been resolved by "punishing" capital rules that make these types of trades unattractive.
"Prop trading is gone. We're not looking for it to come back," Creighton said.
Wells Fargo (WFC)CEO Tim Sloan specifically cited the Volcker Rule as one of many parts of financial regulation he wants Trump to dial back.
"You kind of scratch your head and say, 'Is there really a lot of added benefit to that?" Sloan said last month.
Even if Congress doesn't kill Dodd Frank, Trump could undermine it by picking regulators who choose not to enforce it.
"You could unravel the Volcker Rule by just downgrading enforcement of it," said Stanley.
