Working Papers

The Two-Tiered Politics of Financial Reform in the United States

Abstract

The literature on regulation has typically emphasized the ability of concentrated interest groups to secure the rules they prefer. One view argues that concentrated interests are consistently able to impose diffuse costs across large and unorganized interest. A second, largely compatible, view emphasizes the ability of powerful interest groups to mobilize expertise and to provide informational goods to politicians who adjust their legislative proposals accordingly. This paper shows that the Dodd Frank legislation for financial reregulation in 2010 departs from both versions of this now conventional wisdom. Instead, this paper shows that both political parties adopted what wee call a two tier political strategy of (1) maintaining good relations with the established financial elite and (2) simultaneously responding to the demands of grass roots advocacy groups for more stringent regulation. As a result, Dodd Frank Act falls far short of a thorough going redesign of the regulatory landscape, but also amounted to considerably more than business as usual. While the Dodd Frank Act creates new regulatory instruments and powers that hold the potential for far reaching changes, most of the existing agencies and market participants remain interact. This pattern of two tier politics is evident through the four primary policy domains treated in the legislation: macroprudential regulation, consumer protection, reestablishment of the partition between deposit banking versus proprietary trading (the Volcker Rule), and the regulation of derivatives trading.