Chairman McHenry, Ranking Member Green, and members of the Subcommittee, thank you for the opportunity to testify on behalf of the Federal Deposit Insurance Corporation (FDIC) on Sections 165 and 121 of the Dodd-Frank Wall Street Reform and Consumer Protection Act (Dodd-Frank Act). Our testimony will focus on the FDIC’s role and progress in implementing Section 165, including the resolution plan requirements and the requirements for stress testing by certain financial institutions.

Section 165 of the Dodd-Frank Act

Resolution Plans

Under the Dodd-Frank Act, bankruptcy is the preferred resolution framework in the event of a systemic financial company’s failure. To make this prospect achievable, Title I of the Dodd-Frank Act requires that all large, systemic financial companies prepare resolution plans, or “living wills”, to demonstrate how the company would be resolved in a rapid and orderly manner under the Bankruptcy Code in the event of the company’s material financial distress or failure. This requirement enables both the firm and the firm’s regulators to understand and address the parts of the business that could create systemic consequences in a bankruptcy.

The FDIC intends to make the living will process under Title I of the Dodd-Frank Act both timely and meaningful. The living will process is a necessary and significant tool in ensuring that large financial institutions can be resolved through the bankruptcy system.

…continue reading: Examining the Application of Title I of the Dodd-Frank Act

Treasury officials have recently suggested that the Financial Stability Oversight Council (FSOC) may soon designate the first round of systemically significant nonbank financial companies (Nonbank SIFIs). In March, Under Secretary for Domestic Finance Miller and Deputy Assistant Secretary for the FSOC Gerety stated that designations could occur “in the next few months.”

Moreover, the Board of Governors of the Federal Reserve System (Federal Reserve) recently finalized its rule on determining when a company is “predominantly engaged in financial activities,” thus making the company potentially subject to FSOC designation. The final rule is notable for stating that an investment firm that does not comply with the Merchant Banking Rule’s investment holding periods and routine management and operation limitations may nonetheless be determined, on a case- by-case basis, to be engaging in “financial activities.” In addition, the final rule rejected the argument that mutual funds — including money market mutual funds — are “not engaged in a financial activity” and therefore not capable of designation.

…continue reading: FSOC Designation: Consequences for Nonbank SIFIS

On a number of occasions since returning to the SEC as a Commissioner, I’ve spoken about the Commission’s priorities, both in terms of what the Commission is doing and what it should be doing in order effectively to carry out its mandate to protect investors, ensure fair and efficient markets, and facilitate capital formation. Needless to say, the Commission does not operate in a vacuum, and for various reasons, it’s not always easy to execute those priorities as we see fit. The constant stream of external influences on the Commission’s work serves as a significant impediment to its ability to focus on the core mission, including the vital, basic “blocking and tackling” of securities regulation. Therefore, I’d like to talk about the Commission’s origin and role as an expert, independent agency — as well as the challenges to that independence — in what has become in recent years a difficult environment for independent agencies.

…continue reading: Challenges for the SEC’s Independence

On November 13, 2012, the Financial Stability Oversight Council (FSOC), faced with a Securities and Exchange Commission (SEC) that has been deadlocked over whether or how to address concerns about money market funds (MMFs), voted unanimously to propose three MMF reforms. The vote was the FSOC’s first exercise of its power under section 120 of the Dodd-Frank Act to recommend heightened regulatory standards to financial regulatory agencies. If finalized, today’s proposal will result in a recommendation that the SEC act on at least one of the reforms. [1]

Last August, SEC Chairman Mary Schapiro, in a controversial decision, tabled proposed rulemaking on MMFs because of the lack of support from three Commissioners of the SEC. In a letter sent in late September, Treasury Secretary Timothy Geithner urged the FSOC members at their November meeting to take up MMF reform through their section 120 powers. According to Secretary Geithner at today’s meeting, the FSOC’s decision was taken on the recommendation of Chairman Schapiro.

The proposal from the FSOC presents three options for MMF reform, two of which were before the SEC in August, and requests public comment during the 60 days following publication of the proposal in the Federal Register. The FSOC does not regard the three options as mutually exclusive and thus could recommend more than one to the SEC. The three options are as follows:

…continue reading: Money Market Funds: FSOC Proposes Reforms

As one would expect of a piece of legislation that has sixteen titles and runs 849 pages in the Statutes at Large, the Dodd-Frank Wall Street Reform and Consumer Protection Act ranges widely in addressing problems both directly and indirectly associated with the financial crisis. Taken as a whole, though, the primary aim of those 849 pages can fairly be read as a reorientation of financial regulation towards safeguarding “financial stability” through the containment of “systemic risk,” phrases that both recur dozens of times throughout the statute. The law, explicitly in many provisions and implicitly in many others, directs the bank regulatory agencies to broaden their focus beyond the soundness of individual banking institutions, and the market regulatory agencies to move beyond their traditional focus on transaction-based investor protection.

This emphasis on financial stability and systemic risk is hardly surprising in light of the damage done by the financial crisis and the ensuing Great Recession, from which we continue to recover only slowly. Indeed, concern about financial stability and systemic risk has at times been a crucial impetus for financial reform in the United States. Much of the New Deal legislation that defined the financial regulatory structure for more than 40 years was in direct response to what we would today call systemic concerns, including banking panics and excessive leverage in equity markets. Twenty years before the New Deal, the creation of the Federal Reserve had been intended at least as much as a financial stability measure as an instrument of monetary policy.

…continue reading: Financial Stability Regulation

Implementation of the Dodd-Frank Act: Measures to Address Systemic Risk

The economic dislocations we have experienced in recent years, which have far exceeded those associated with any recession since the 1930s, were the direct result of the financial crisis of 2007-08. The reforms enacted under the Dodd-Frank Act were aimed at addressing the root causes of the crisis. Foremost among these reforms were measures to curb excessive risk-taking at large, complex banks and non-bank financial companies, where the crisis began. Title I of the Dodd-Frank Act includes new provisions that enhance prudential supervision and capital requirements for systemically-important financial institutions (SIFIs), while Title II authorizes a new orderly liquidation authority that significantly enhances the ability to resolve a failed SIFI without contributing to additional financial market distress.

SIFI Resolution Authorities

The most important new FDIC authorities under the Dodd-Frank Act are those that provide for enhanced resolution planning and, if needed, the orderly resolution of SIFIs. Prior to the recent crisis, the FDIC’s receivership authorities were limited to federally insured banks and thrift institutions. There was no authority to place the holding company or affiliates of an insured institution or any other non-bank financial company into an FDIC receivership to avoid systemic consequences. The lack of this authority severely constrained the ability of the government to resolve a SIFI and contributed to the excessive risk taking that led to the crisis.

…continue reading: Enhancing Bank Supervision and Reducing Systemic Risk

On April 3, 2012 the Financial Stability Oversight Council issued its final rule and interpretive guidance governing its process for designating a nonbank financial company as a systemically important financial institution under the Dodd-Frank Act. The adoption of the Final Rule marks the completion of the highly anticipated standards for designating SIFIs, a process that first began in October 2010. While there have been changes made to the process, much remains to be understood how the FSOC will use its authority to determine whether a nonbank financial company should be supervised and subject to prudential standards. It is widely anticipated that designations of some SIFIs will be made before year-end, making us wonder whether the designation process has been underway without final rules being in place.

The Statute

Section 113 of the Dodd-Frank Act [1] authorizes the Financial Stability Oversight Council (“FSOC”) to designate a nonbank financial company to be supervised by the Board of Governors of the Federal Reserve System (the “Federal Reserve”) and be subject to prudential standards. [2] The FSOC will make a designation after determining that material financial distress at the company or the nature, scope, size, scale, concentration, interconnectedness, or mix of the activities of the company could pose a threat to the financial stability of the United States.

…continue reading: Final Rule Issued on Systemically Important Firms, Many Unknowns Remain

Recently, the Financial Stability Oversight Council (“Council”) unanimously approved a final rule (the “Final Rule”) and related interpretive guidance (the “Final Guidance”) under the Dodd-Frank Wall Street Reform and Consumer Protection Act (“Dodd-Frank”), [1] regarding the designation of systemically important nonbank financial companies (often referred to as nonbank “SIFIs”). The Final Rule and Final Guidance describe how the Council will apply the statutory designation standards and the procedures it intends to employ in exercising this authority. Designated companies are required to comply with enhanced prudential standards and are subject to consolidated supervision by the Board of Governors of the Federal Reserve System (the “Federal Reserve”). The Federal Reserve’s recent proposal regarding these enhanced standards suggests that this will be a comprehensive and rigorous regulatory regime. [2]

The Final Rule and Final Guidance, which are substantially similar to the Council’s October 2011 proposed rule and guidance (the “October 2011 Proposal”), [3] do not provide significant new insight as to which companies will ultimately be designated. Nonetheless, it is an important initial procedural step to enable the actual designation process to begin. Secretary of the Treasury Geithner, who chairs the Council, has indicated that the first of these designations will be made this year.

…continue reading: Final Rule on Designation of Systemically Important Companies

On October 11, 2011, the Financial Stability Oversight Council unanimously approved a second notice of proposed rulemaking and related interpretive guidance under the Dodd-Frank Act regarding the designation of systemically important “nonbank financial companies.” The new proposal, which was published in today’s Federal Register, describes the manner in which the Council proposes to apply the relevant statutory standards and the processes and procedures it intends to employ in carrying out its authority to designate systemically important nonbank financial companies. These designated companies are required to comply with enhanced prudential standards and are subject to consolidated supervision by the Board of Governors of the Federal Reserve System. Comments on the Council’s proposal are due by December 19, 2011.

Among the nonbank financial companies potentially subject to a systemically important designation by the Council are savings and loan holding companies, insurance companies, private equity firms, hedge funds, asset management companies, financial guarantors, and other U.S. and non-U.S. nonbank companies deemed to be “engaged primarily” in activities that are financial in nature.

…continue reading: Designation of Systemically Important Nonbank Financial Companies Under Dodd-Frank

The General Accountability Office (“GAO”) recently completed a study mandated by the Dodd-Frank Wall Street Reform and Consumer Protection Act of the risks and conflicts of interest associated with proprietary trading by U.S. banking institutions (the “Study”). Proprietary trading will be prohibited by Dodd-Frank’s Volcker Rule beginning in July 2012, and the Study was intended to provide input for the U.S. bank regulatory agencies in their proposed regulations implementing its requirements, which are expected in the very near future. The Study addresses (1) what is known about the risks and conflicts of interest associated with proprietary trading and the potential effects of the Act’s restrictions and (2) how regulators have overseen such trading and the challenges they face in implementing the restrictions. This is a more limited approach than the scope of the Study that Congress mandated, and already has garnered criticism by two Senators.

GAO completed its Study [1] with a recommendation that regulators should collect and review more comprehensive information on the nature and volume of activities potentially covered by the Act as a predicate to adopting final rules implementing the Volcker Rule. [2] The recommendation is not surprising, given that GAO encountered difficulty in collecting information on proprietary trading to complete its Study. The Treasury Department and the financial regulators have implicitly declined or at most agreed only to consider this as part of their rulemaking, as they apparently have concerns with the scope and direction of the recommendation.

…continue reading: General Accountability Office Struggles with Dodd-Frank’s Volcker Rule