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February 2, 2012

What the Volcker Rule Has in Common with Your Next Flight

The plastic cup flew through the air and hit the flight attendant in the head.  The plane headed back to the gate, and a 37-year old Idaho mother of two was charged with assault.  What triggered her odd outburst of Dixie-cup chin music? 

She was forced to comply with the federal requirement that portable electronic devices be turned off.  She was not alone in her air rage-the rule has recently caused temper tantrums by celebrities and fistfights among passengers.  Even a U.S. Senator had to apologize in 2009 for calling a flight attendant a word you wouldn't often see in the Congressional Record, after she wouldn't let him finish an email.

To be worth all this angst, it must be an important safety precaution, right?  Well, not exactly.  The FAA itself admits that no plane crash, or even minor equipment malfunction, has ever been definitively attributed to the use of an electronic device.  A lab in California estimated that the emissions from most devices are less than a millionth of what it would take to mess up an airplane's controls. The whole thing makes no sense: when was the last time your cell phone messed up the GPS in your car, or caused the cruise control to go haywire?  Why would airplane electronics be so different?

And yet, the rule has been part of our lives for more than twenty years, primarily because there is no way to prove without a shadow of a doubt that electronic devices won't one day somehow cause a problem.  Wall Street now finds itself facing a similarly unnecessary "safety first" rule, one that is guaranteed to also cause much angst and wasted effort.  Known as the Volcker Rule  and signed into law in July 2010, it prohibits U.S. banks from engaging in proprietary trading as of July 2014. 

Proponents of the rule pitch it as a safety device.  The logic is that proprietary trading could create large losses that lead to a run on a bank, so they should not be allowed.  On the surface, that sounds logical.  But if the goal were just risk reduction, would a complete ban be necessary? Couldn't risk be reduced in a less disruptive way by just raising capital requirements further, or by limiting the total amount of risk a bank is allowed to take?

It seems that the logic behind the total ban is simplicity, similar to the reason given for the total ban on electronics in planes.  The FAA says that it would be too hard to certify each and every new electronic device, and the authors of the Volcker Rule similarly think it would be too hard to allow any proprietary trading.  Easier to turn it all off-better to ban that iPod Shuffle during takeoff, to make sure no one is broadcasting on a ham radio in seat 28E.  Similar logic leads to a ban on flipping shares of Intel, to make sure no one is making a $10 billion bet on hyper-leveraged exotic derivatives.

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