What (De)Regulation Q Means for Your Portfolio

Federal laws and regulations that are enacted can last decades, but they tend to change after a major financial crisis. After the sub-prime mortgage meltdown in 2008, a slew of new regulations were pressed into law. The most far-reaching new regulation was the Dodd-Frank Wall Street Reform and Consumer Protection Act that was passed in 2010.

While a number of new changes hit investors as a result of the new law, there was also deregulation as well. Known as Regulation Q, this law was passed in 1933 and lasted until Dodd-Frank in 2010. The premise of the regulation was to prohibit interest payments on demand accounts, also known as standard checking accounts. It also placed a ceiling on interest rates offered on various banking products like savings accounts and time deposits in order to discourage speculative investment by large banks.

One of the byproducts of Regulation Q was money market mutual funds. This type of account didn’t count towards the requirements of the regulation, allowing banks to offer investors a conservative type of savings account without interest rate limitations.

Over time, lawmakers began to see how banks were getting around the regulation. As such, they slowly began to approve other banking products to exceed the previous interest rate ceilings imposed earlier with the one exception being a ban on interest-bearing demand deposits.

In hindsight, Regulation Q has served as an example of how Federal laws can result in financial repression by forcefully attempting to manipulate money flows in the economy. Many analysts contend that it resulted in savers earning less than the rate of inflation and negatively affected growth in the economy.

The creation of money market mutual funds as a side effect of Regulation Q was a benefit for investors. Now, without the limitations that resulted in the regulation’s creation in the first place, many investors wonder what kind of impact it will have on their portfolios.

The group that should see the largest change is small businesses. Previously, they needed to hold multiple accounts and engage in cumbersome and oftentimes pricey transfers between accounts in order to maximize efficiency. With checking accounts now able to offer interest, though, the need to hold numerous accounts can be greatly reduced, freeing up more money. More money equals more growth and greater opportunities.

While Dodd-Frank eliminated Regulation Q, it doesn’t force banks to offer interest-bearing checking accounts either – it only opens up the opportunity for them to exist. So far, the adoption of the new law has been a slow process with most banks keeping an eye on their competitors to see how it will impact them over the long run.

One thing investors and small businesses should keep in mind is that interest-bearing demand deposits don’t get the protection of the FDIC. That means an insolvent bank would spell disaster for account holders who hold money in these types of accounts. Going forward, it seems likely that more account options will be available for consumers and businesses alike but the standard model of diversifying assets across multiple account types will stay in place.