Volcker's fuzzy finale

Watchdogs make Volcker Rule rod for own backs

America's financial watchdogs have made a rod for their own backs out of the Volcker Rule. The final draft of the legislation, passed by five banking regulators on Tuesday, bans the nation's banks from outright prop trading and from London Whale-style hedging. But the onus is on regulators to prove if banks step over the line. To be fair, Congress handed financial policymakers a Herculean task. The 2010 Dodd-Frank Act mandated a clear distinction be drawn between client activities like making markets in securities, underwriting stock and bond sales and hedging on the one hand and trading for an institution's own benefit on the other. After three years of back and forth, regulators have not done too badly, balancing the spirit of reform with the need not to be too overbearing.

They have not, for example, imposed strict limits on either the type or the size of trades banks can undertake with their own capital for the benefit of their clients. Instead, banks will have to rely on their own metrics, such as what they have done in the past, to justify what passes through their books.

That's where it gets tricky for the trader police. First, it leaves them in a purely reactionary mode. Second, regulators will have to pore over reams of data just to find a position that looks out of whack and then dig even deeper to work out if it breaks the law. And they'll yet again be relying on data provided to them by banks. The Volcker Rule doesn't remove all prop trading, either. U.S. Treasuries are still fair game, as are foreign government bonds, in some circumstances. That's a pretty large exception to the ban: all in, the rates business to which these markets belong makes up as much as 70 percent of the industry's fixed-income trading revenue, Morgan Stanley President Colm Kelleher told investors on Tuesday before the final rule was published.

Wall Street is unlikely to be jumping for joy, though. The rule still crimps their trading, leaves much open to interpretation, adds to compliance costs and puts chief executives on the hook for any failure. They should spare a thought for their overseers, though, who now have to find a way to marshal a 1,000-page beast of their own making.