Loading the player...

What is the 'Volcker Rule'

The Volcker Rule is a federal regulation that generally prohibits banks from conducting certain investment activities with their own accounts and limits their dealings with hedge funds and private equity funds, also called covered funds. The Volcker Rule aims to protect bank customers by preventing banks from making certain types of speculative investments that contributed to the 2008 financial crisis.

BREAKING DOWN 'Volcker Rule'

Named after former Federal Reserve Chairman Paul Volcker, the Volcker Rule refers to section 619 of the Dodd-Frank Wall Street Reform and Consumer Protection Act, which sets forth rules for implementing section 13 of the Bank Holding Company Act of 1956.

The Volcker Rule prohibits banks from using their own accounts for short-term proprietary trading of securities, derivatives, and commodity futures, as well as options on any of these instruments. The rule also bars banks, or insured depository institutions, from acquiring or retaining ownership interests in hedge funds or private equity funds, subject to certain exemptions. In other words, the rule aims to discourage banks from taking too much risk by barring them from using their own funds to make these types of investments to increase profits. The Volcker Rule relies on the premise that these speculative trading activities do not benefit banks’ customers.

The rule went into effect on April 1, 2014, with banks' full compliance required by July 21, 2015 — although the Federal Reserve has since set procedures for banks to request extended time to transition into full compliance for certain activities and investments.

More on the Volcker Rule's Specifications

The rule allows banks to continue market making, underwriting, hedging, trading government securities, engaging in insurance company activities, offering hedge funds and private equity funds, and acting as agents, brokers or custodians. Banks may continue to offer these services to their customers to generate profits. However, banks cannot engage in these activities if doing so would create a material conflict of interest, expose the institution to high-risk assets or trading strategies, or generate instability within the bank or within the overall U.S. financial system.

Depending on their size, banks must meet varying levels of reporting requirements to disclose details of their covered trading activities to the government. Larger institutions must implement a program to ensure compliance with the new rules, and their programs are subject to independent testing and analysis. Smaller institutions are subject to lesser compliance and reporting requirements.

For more on the Volcker Rule, read How The Volcker Rule Affects You.

History of the Volcker Rule

The rule's origins date back to 2009, when architect Paul Volcker proposed a piece of regulation in response to the ongoing financial crisis (and after the nation's largest banks accumulated large losses from their proprietary trading arms) that aimed to prohibit banks from speculating in the markets. Volcker ultimately hoped to re-establish the divide between commercial banking and investment banking — a division that once existed but was legally dissolved by a partial repeal of the Glass-Steagall Act in 1999.

Although not a part of President Barack Obama's original proposal for financial overhaul, the Volcker Rule was endorsed by Obama and added to the proposal by Congress in January 2010.

Five federal agencies—the Board of Governors of the Federal Reserve System, the Federal Deposit Insurance Corporation, the Office of the Comptroller of the Currency, the Commodity Futures Trading Commission and the Securities and Exchange Commission—approved the final regulations that make up the Volcker Rule in December 2013.

Criticism of the Volcker Rule

The Volcker Rule has been widely criticized from various angles. The U.S. Chamber of Commerce claimed in 2014 that a cost-benefit analysis was never done, and that the costs associated with the Volcker Rule outweigh its benefits. In 2017, the International Monetary Fund's top risk official said that regulation to prevent speculative bets are hard to enforce and that the Volcker Rule could unintentionally diminish liquidity in the bond market. The Federal Reserve's Finance and Economics Discussion Series (FEDS) made a similar argument, saying that the Volcker Rule will reduce liquidity due to a reduction in bank's market-making activities. Furthermore, in October 2017, a Reuters report revealed that the European Union had scrapped a drafted law that many characterized as Europe's answer to the Volcker Rule, citing no foreseeable agreement in sight. Meanwhile, several reports have cited a lighter-than-expected impact on the revenues of big banks in the years following the rule's enactment — although ongoing developments in the rule's implementation could affect future operations.

Future of the Volcker Rule

The future of the Volcker Rule remains uncertain under the administration of President Donald Trump. In February 2017, Trump signed an executive order directing Treasury Secretary Steven Mnuchin to review existing financial system regulations. Since the executive order, Treasury officials have released multiple reports proposing changes to Dodd-Frank, including a recommended proposal to allow banks greater exemptions under the Volcker Rule.

In one of the reports, released in June 2017, the Treasury said it recommends significant changes to the Volcker Rule while adding that it does not support its repeal and "supports in principle" the rule's limitations on proprietary trading. The report notably recommends exempting banks with less than $10 billion in assets from the Volcker Rule. The Treasury also cited regulatory compliance burdens created by the rule and suggested simplifying and refining the definitions of proprietary trading and covered funds on top of softening the regulation to allow banks to more easily hedge their risks.

Since the June 2017 assessment, Bloomberg reported in January 2018 that the Treasury's Office of the Comptroller of the Currency has led efforts to revise the Volcker Rule in accordance with some of the Treasury's recommendations. A timeline for any proposed revisions to take effect remains unclear, though it would certainly take months or years.

  1. Federal Reserve Bank

    The Federal Reserve Bank is the central bank of the United States. ...
  2. Regulation I

    A regulation set forth by the Federal Reserve. Regulation I stipulates ...
  3. Reserve Requirements

    Reserve requirements refer to the amount of cash that banks must ...
  4. Universal Banking

    Universal banking is a banking system in which banks provide ...
  5. Central Bank

    The entity responsible for overseeing the monetary system for ...
  6. Uptick Rule

    The Uptick Rule is a former law established by the SEC that requires ...
Related Articles
  1. Investing

    How The Volcker Rule Affects You

    Find out if the Volcker Rule will just affect big banks, or if it's something you should worry about.
  2. Insights

    Bank Stocks: The Attack on Dodd-Frank

    Bank stocks were given an initial boost after the House passed the new bill to repeal Dodd-Frank.
  3. Investing

    How Trump Can Unilaterally Deregulate Big Banks

    Trump could water down bank regulation unilaterally.
  4. Financial Advisor

    Ready for the Fiduciary Rule? You Should Be

    Despite the opposition it faces, advisors should still plan to comply with the fiduciary rule. Here's why.
  5. Managing Wealth

    Here's Why Fixed-Income Returns Are So Low

    As the Federal Reserve remains reluctant to aggressively raise interest rates, investors continue to search for yield.
  6. Personal Finance

    Retail Banking vs. Corporate Banking

    Retail banking is the visible face of banking to the general public. Corporate banking refers to the aspect of banking that deals with corporate customers. Check out more on the differences between ...
  1. How did the Volcker Rule affect investment banks, and how does this lower the chances ...

    Understand the effect of the Volcker Rule on investment banks and how the Volcker Rule has reduced the risk of another financial ... Read Answer >>
  2. What is the purpose of the Volcker Rule?

    Learn about how the Volcker rule prohibits banks from engaging in certain activities, such as proprietary trading and having ... Read Answer >>
  3. What major laws regulating financial institutions were created in response to the ...

    Read about the major federal responses to the financial crisis of 2008, such as the Dodd-Frank Wall Street Reform Act and ... Read Answer >>
  4. What are the implications of a high Federal Funds Rate?

    Learn the implications of a high federal funds rate, which include constriction of the money supply, a stronger dollar and ... Read Answer >>
  5. What are some examples of expansionary monetary policy?

    Learn about expansionary monetary policy and how central banks use discount rates, reserve ratios and purchases of securities ... Read Answer >>
Hot Definitions
  1. Entrepreneur

    An Entrepreneur is an individual who founds and runs a small business and assumes all the risk and reward of the venture. ...
  2. Money Market

    The money market is a segment of the financial market in which financial instruments with high liquidity and very short maturities ...
  3. Perfect Competition

    Pure or perfect competition is a theoretical market structure in which a number of criteria such as perfect information and ...
  4. Compound Interest

    Compound Interest is interest calculated on the initial principal and also on the accumulated interest of previous periods ...
  5. Income Statement

    A financial statement that measures a company's financial performance over a specific accounting period. Financial performance ...
  6. Leverage Ratio

    A leverage ratio is any one of several financial measurements that look at how much capital comes in the form of debt, or ...
Trading Center