On March 28, 2012, business information services company IHS Inc. released a report raising the possibility of detrimental impacts of the so-called “Volcker Rule” on the energy industry.   The report, entitled, “The Volcker Rule: Impact on the U.S. Energy Industry and Economy,” concludes that the proposed rule will limit certain financial institutions’ ability to provide critical hedging liquidity to the energy sector, which in turn will lead to substantial energy price increases and job losses.  The study was commissioned by Morgan Stanley.

The proposed Volcker Rule, named for former Federal Reserve Chairman Paul Volcker, is a section of the Dodd-Frank Wall Street Reform and Consumer Protection Act that prohibits insured depository institutions and their affiliates from: engaging in proprietary trading; acquiring or retaining any equity, partnership, or other ownership interest in a hedge fund or private equity fund; and sponsoring a hedge fund or a private equity fund.

The IHS report found that the Volcker Rule, as it is currently proposed, could be read narrowly, constraining banks’ ability to offer commodities risk-management and intermediation services to players within the energy sector (i.e., hedging).  The report explains how restricting access to these services could adversely impact energy markets by raising costs and increasing price volatility.  The report also ties an increase in hedging activities with increased investment, so a decrease in hedging could well lead to a decrease in investment.  The report estimates that the potential economic impacts could be extensive—power costs could increase by $5.3 billion per year, jobs could decrease by 200,000 and a $34 billion loss in US GDP would result on an annual basis over the 2012-2016 period. 

The report has ignited a debate about the reach of the Volcker Rule and its impact on the energy markets.  Some commentators have taken issue already with the IHS findings, questioning, for example, why other non-bank institutions or the exchanges might not step in fill the hedging void created by the removal of the banks, or why the study does not analyze any benefits that may result from the rule in its cost analysis.

To download the report, follow this link.