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Starving the Watchdog: How Budget Cuts Undermine Financial Regulation

David Callahan

There are basically two ways to thwart regulatory oversight of Wall Street: One, block new rules or weaken existing rules; and, two, make sure that whatever rules exist are not fully enforced.

The finance industry and its allies in Congress are pursuing both strategies. Yet while the campaign against Dodd-Frank has received much attention, less heed has been paid to how a budgetary attack is undermining the two top watchdogs over Wall Street: The Securities and Exchange Commission (SEC) and the Commodities Future Trading Commission (CFTC).

Since their huge gains in 2011, Republicans in Congress have repeatedly sought to limit or cut spending for financial oversight. In early 2011, the House Appropriations sought to cut the Obama Administration's budget request for the SEC by $222.5 million, even though that agency needs to dramatically expand its staff in order to be write and implement the rules for Dodd-Frank. By thwarting expansion of the SEC and CFTC, Republicans have hoped to slow or derail the implementation of Dodd-Frank. As Senate Minority Leader Mitch McConnell explained last year, in discussing financial regulation: “The less we fund those agencies, the better America will be. . . . Anything we can do to slow down, deter or impede their ability to engage in this kind of oppressive overregulation, which is freezing up our economy, would be good for the country.”

Last year's cuts to the SEC budget request were ultimately rejected, and the Obama Administration got the agency's budget increased. But Congress is trying again this year, and may be more successful. In September, before recessing, Congress passed budgetary legislation that cut some $200 million from the Obama Administration's budget request of $1.56 billion for the SEC. In effect, Congress has flatlined funding for the SEC even as hundreds of new employees are needed at the agency right now to implement the numerous new rules that the SEC has approved since Dodd-Frank.

Meanwhile, the automatic sequestration cuts that are set to take effect next year could result in actual reductions to the SEC of up to 8 percent, or $117 million.

The story is grimmer at the CFTC. While Republicans have focused on freezing the SEC's budget, they have pushed steep cuts for the CFTC -- despite three big scandals in the past 18 months -- at MF Global, Peregrine, and JP Morgan -- that show the needs for more CFTC muscle. House Republicans tried to whack the CFTC budget by 15 percent last year, and succeeded in freezing the agency's budget levels -- making it hard for the CFTC to expand to meet its Dodd-Frank obligations.

Republicans are wielding the meat cleaver again this year against the CFTC. In June, the House Appropriations Committee voted to reduce the CFTC's budget by $25 million, or 12 percent. While the Administration had requested $308 million, the House proposed giving it just $180 million.

Weirdly enough, Republicans in Congress cite the failure of the CFTC to prevent recent frauds as an excuse for downsizing the agency. “The CFTC is not doing its job, in my opinion, in doing their job for what it was created to do, and that is police the financial streets,” Senator Pat Roberts, a Republican from Kansas said in a hearing earlier this year in which CFTC chairman Gary Gensler was lambasted for failing to stop the frauds at MF Global and Peregrine. “Chairman Gensler should be overseeing the rules on the books rather than requesting new multitudes of staff and looking for justification to regulate the world.”

Roberts misses two obvious points here: First, the CFTC has been too weak to properly do its job, given its large mandate -- which includes overseeing $300 trillion of swaps and $40 trillion of futures -- and its modest budget. Second, expanding the CFTC's regulatory powers is imperative if it is going to stop disasters at places like MF Global, a firm which exploited gaps in regulatory oversight and worked to keep regulators at bay.

Top officials in the Obama Administration have criticized and fought these budget cuts at every turn. Both Gary Gensler of the CFTC and Mary Shapiro at the SEC have testified that the cuts, or flat budgets, will thwart efforts to not just hire additional staff and implement new rules, but update technology systems needed to ensure better oversight of high-frequency trading -- which increasingly threatens to stability of financial markets, as we have seen during several "flash crashes." In a short brief earlier this year, the U.S. Department of Treasury called the cuts to the SEC and CFTC "penny wise and pound foolish," noting that cuts "are less than .002% of the total household wealth lost during the financial crisis."

Of course, though, lawmaking on financial regulation is not driven by cost-benefit analysis. It is ideological hostility to regulation and the fealty to hugely influential financial services industry. Dodd-Frank may be the law of the land, but ensuring adequate resources for the watchdogs that keep an eye on Wall Street is emerging as one of the most consequential ongoing battles in Washington.

This entry is part of the series New Rules for Wall Street, where Demos analysts and members of the Coalition for Sensible Safeguards make the case for what should be on the financial-reform agenda in the next four years. Read all the entries here.