That is good news from a robustness perspective. Less good is the fact that there will be a clear hierarchy of solvency rules, with the frontstop provided by a risk-weighted capital ratio and with the leverage ratio serving as backstop. In the hierarchy, leverage will be second-in-line. At least for the world’s largest and most complex banks – the ones for which Basel was designed – that hierarchy is difficult to justify. On the evidence presented here, the hierarchy should if anything be reversed, with the leverage ratio playing the frontstop role given its simplicity and superior predictive performance. The more complex the bank, the stronger is this case. The case against leverage ratios is that they may encourage banks to increase their risk per unit of assets, reducing their usefulness as an indicator of bank failure – a classic Goodhart’s Law. Indeed, that was precisely the rationale for seeking risk-sensitivity in the Basel framework in the first place. A formulation which would avoid this regulatory arbitrage, while preserving robustness, would be to place leverage and capital ratios on a more equal footing. That is why, in its recommendations on macroprudential instruments, the Bank of England’s Financial Policy Committee has given capital and leverage ratios equal billing. 21  19  Wall Street Reform and Consumer Protection Act, Section 171. 20  Basel Committee on Banking Supervision (2012). 21  Bank of England (2012).
On its own, the Act runs to 848 pages – more than 20 Glass-Steagalls. That is just the starting point. For implementation, Dodd-Frank requires an additional almost 400 pieces of detailed rule-making by a variety of US regulatory agencies. As of July this year, two years after the enactment of Dodd-Frank, a third of the required rules had been finalised. Those completed have added a further 8,843 pages to the rulebook. At this rate, once completed Dodd-Frank could comprise 30,000 pages of rulemaking. That is roughly a thousand times larger than its closest legislative cousin, Glass-Steagall. Dodd-Frank makes Glass-Steagall look like throat-clearing. The situation in Europe, while different in detail, is similar in substance. Since the crisis, more than a dozen European regulatory directives or regulations have been initiated, or reviewed, covering capital requirements, crisis management, deposit guarantees, short-selling, market abuse, investment funds, alternative investments, venture capital, OTC derivatives, markets in financial instruments, insurance, auditing and credit ratings. 8  BIS central bankers’ speeches  These are at various stages of completion. So far, they cover over 2000 pages. That total is set to increase dramatically as primary legislation is translated into detailed rule-writing. For example, were that rule-making to occur on a US scale, Europe’s regulatory blanket would cover over 60,000 pages. It would make Dodd-Frank look like a warm-up Act. (c)  The regulatory response  The density and complexity of financial regulation has had predictable consequences for the scale and scope of regulatory resources.