According to Moody’s, Dodd-Frank is the main culprit for its recent downgrade of four major United States banks’ credit ratings. On November 14, the credit rating agency released a report announcing that it lowered the credit ratings of Morgan Stanley, Goldman Sachs, JPMorgan, and Bank of New York Mellon by one notch. To explain, the agency pointed to the new framework implemented by the FDIC under Title II of the Dodd-Frank Act, which “reduce[s] the likelihood and predictability of systemic support” in the event of a bank holding company’s insolvency by shifting costs from the public sector to the private sector, increasing the risk of default.
The Dodd-Frank Act explicitly sets out “to protect the American taxpayer by ending bailouts.” Title II (Orderly Liquidation Authority) gives this promise teeth by setting new ground rules that regulators must follow when taking a distressed financial entity through an “orderly liquidation.” As a result, Dodd-Frank essentially ensures that taxpayers are no longer on the hook for saving failing banks.
Section 204 of Title II provides that “creditors and shareholders will bear the losses of the financial company” in the event of insolvency, while section 214 forbids the use of taxpayer funding to prevent the company’s liquidation. The message is clear – the widespread bailout of banks by the United States government is likely a thing of the past.
In response, Moody’s removed the credit “uplift” that bank holding companies previously enjoyed from the now outdated assumption of US government support, resulting in the ratings downgrades. What remains to be seen, critics note, is whether regulators could effectively manage the liquidation of a so-called “too big to fail” bank in the aftermath of Dodd-Frank.