Senate Banking Hearing Tomorrow — Why is Implementation So Slow? (October 1)

Update 302: Senate Banking Hearing Tomorrow
on S. 2155 — Why is Implementation So Slow?

When the Economic Growth, Regulatory Relief, and Consumer Protection Act (S. 2155) was signed into law four months ago, we saw risk, not a reason to rush implementation. Industry apparently sees otherwise and so Senate Banking will ask why it’s been so slow.

Per a recent survey of registered voters by Better Markets and The Harris Poll, 58 percent either wanted a return to the protections put in place after the financial crisis or additional regulation on banks with over $50 billion in assets. 70 percent of Democrats, 53 percent of independents, and 49 percent of Republicans agreed.  

A majority of voters disagree with S. 2155’s deregulatory agenda. Policy aside (or see below), just five weeks out from the midterms, is this the time for lawmakers to showcase support for, let alone demand rapid implementation of, the biggest rollback of Dodd-Frank yet?




Industry Interest

The supervisory regulatory relief to community banks, the provision at the center of S. 2155’s advertising, is not extensive.  In raising the Federal Reserve’s Small Bank Holding Company Policy Statement from $1 billion to $3 billion, small banks that qualify may apply for a longer supervisory examination cycle of up to 18 months. Should they meet the appropriate criteria, banks with under $5 billion in assets will enjoy relaxed reporting requirements in the first and third quarters. For community banks holding over $5 billion in assets, this supervisory relief applies less, focusing on modest changes in capital requirements and mortgage regulations, and exemption from the Volcker rule.

The ratcheting up of the SIFI designation threshold from $50 billion in consolidated assets to $250 billion, which has almost no direct impact on community banks, was the number one legislative goal of the ABA much of this decade. . Title IV of S. 2155 does precisely that, and why the banking sector wants the title implemented yesterday is not a mystery.

Not everyone is enthused.  Sheila Bair, the FDIC chair during the financial crisis, says that S. 2155 sets “a dangerous global precedent [and] now some in [Congress] have decided to side with self-interested bankers.  They argue our stronger capital rules put US banks at a competitive disadvantage, even though they have come to dominate global finance.”  Industry has already expressed its gratitude to Democratic members of the Banking Committee in tight re-election races in red states like Indiana, Montana, North Dakota, the leading recipients of commercial banking largess.  Democrats trying to present S.2155 as a small-bank bill have some ground to stand on, but also run a serious political risk.

Two Steps Forward, One Leap Back

As we have moved farther away from the Great Recession, much of the public has forgotten what precipitated the crisis. S. 2155’s deregulatory measures take us closer to pre-recession conditions rather than farther by undermining a fundamental pillar of the post-2008 regulatory regime.  Although the bill’s messaging is centered around helping community banks, the real winners are the midsize to large regional banks.

Section 401 loosens regulations on 25 of the top 40 largest banks by increasing the asset threshold for the automatic application of post-crisis safeguards, known as enhanced prudential standards, from $50 billion to $250 billion.  These 25 banks together hold $3.5 trillion in assets and collected a total of $47 billion in Troubled Asset Relief Program (TARP) funds during the financial crisis.

401 also provides the biggest rollback thus far of DFA, which was put in place to strengthen regulation after the Recession.  Although the bill gives the Fed discretion to re-apply enhanced prudential standards to those banks with assets between $100 and $250 billion,  President Trump’s appointees, which include Vice Chair of Supervision Randal Quarles, are unlikely to do so. In addition to these already risky changes, the bill also complicates the stress testing system and loosens requirements for the liquidity coverage ratio.  The result? A less-insulated financial system with far greater systemic risk.

Questions Remain

As we head into tomorrow’s hearing, important questions remain on the implementation and interpretation of S.2155 by the various agencies involved:

  • Given the fact that Lehman Brothers had $150 billion in assets when it collapsed during the financial crisis, isn’t the Fed’s newfound discretionary designation power still critically important?
  • What methodologies and procedures will the Fed use to make a determination on whether a bank between $100 billion and $250 billion in assets should face enhanced prudential standards?

Fed Chair Jerome Powell suggested in his most recent press conference last week that post-crisis designation powers on nonbanks, while important, should be used “sparingly.” This seemingly innocuous comment comes as other agency chiefs are considering weakening other discretionary powers in the wake of S. 2155.  The American people (and voters) may not forgive nor forget a future financial crisis conceived in the legislative details of a lobbyist’s bill in Washington.

Review of the Banking Sector (September 21)

Update 300: Review of the Banking Sector; the Irony of Records Being Set Amid Deregulation

Today we go back to basics with a quarterly review of the health of the financial sector and the disparate sub-sectors comprising it. Industry has fostered misrepresentations of the state of the sector claiming to be hamstrung by regulation and suffering consolidation. Its reason is because Dodd-Frank is working all too well and yet still beset by Too Big To Fail because it isn’t working.   

In fact, never have revenues been higher, margins bigger, market caps bigger, salaries and bonuses bigger… and competition keener.  We’ll take the issue up again on October 2 when Senate Banking holds a hearing on the “Implementation of the Economic Growth, Regulatory Relief, and Consumer Protection Act,” where the panel will re-examine whether bank deregulation makes sense given the current cyclical condition of the sector.  

Good reading and good weekends all…




The Banking Sector’s Big Boom

  • Credit Unions

Prior to the passage of S.2155, credit unions were profiting significantly through market consolidation as they continued to gain more market share in areas underserved by community banks. In fact, they have increased their overall market share from around 6 percent at the start of the financial crisis to 7.4 percent in 2017. In other words, credit unions were doing better than ever and were not in need of further deregulation. Despite this, credit unions claimed a large victory in the deregulatory policies of S.2155, the Economic Growth, Regulatory Relief and Consumer Protection Act. Credit unions, along with community banks, received some deregulatory benefits in the bill, but the lion’s share of the benefits in S.2155 still went to the Wall Street elite firms.

  • Community Banks

Since the financial crisis, the condition of community banks has improved considerably. Community banks range from institutions with less than $1 billion in aggregate assets up to institutions with under $10 billion.  One of S.2155’s most notable changes raised the total asset threshold for submission to annual Federal Reserve stress testing from $50 billion to $250 billion, ostensibly not affecting community banks. This increased threshold does give more leeway to small banks looking to grow their asset size, because banks would have to hold over $250 billion in assets before being subjected to enhanced prudential standards.  However, the Fed could use its discretion to apply these standards to banks with between $100 and $250 billion in assets.

  • Midsize Regional Banks

Ten years out from the financial crisis, midsize regional banks also continue to improve.  Some of these banks, buoyed by the 2017 tax law, higher interest rates, and rising commercial bank loans, have almost doubled in size since 1Q 2017. Midsize regional banks gained the most by far from S.2155. Loosening regulatory scrutiny, including automatic enhanced prudential standards, on banks with assets up to $250 billion, hugely benefited the 24 mid-sized regional banks. These banks include household names like PNC, Capital One, SunTrust, and BB&T — not small, community-oriented banks. Rather, precisely these kinds of banks — institutions on their way to becoming banking giants and providing services and loans to the average American — need federal oversight.

  • Wall Street Elite Firms

In the years since the financial crisis, the nation’s elite banks have grown exponentially. The top 15 largest banks, including the likes of J.P. Morgan, Morgan Stanley, and Goldman Sachs, now hold a combined total of over $13 trillion in assets. The top six banks have also experienced record profit growth in recent years, seeing double-digit increases in just the last year from 2Q 2017 to 2Q 2018.

Source: Wall Street Journal

Republicans in Congress, and some Democrats, are deregulating under the guise of helping the little guys — community banks and credit unions — while many of the benefits are actually going to the top 100 financial institutions. Big banks continue to push for deregulatory measures, all the while continuing to benefit from the windfalls of S.2155 and the Tax Cuts and Jobs Act (TCJA).

Underfunded, Understaffed, Undermined

While financial institutions are basking in the golden age of banking, federal agencies are under attack. Crucial regulatory and oversight agencies are undergoing severe budget and staffing cuts, and the Trump Administration and the GOP Congress remain hellbent on weakening protections under DFA.

  • FSOC/Fed: Last week, the Financial Stability Oversight Council (FSOC) used its discretion to remove the systemically important financial institution (SIFI) status of Zions Bank, which was the first time that FSOC has used its powers to de-designate a bank’s systemic risk label. It may be a sign of things to come, as the Fed now has the discretion to apply whatever prudential standards it deems necessary to banks under the new $250 billion threshold. During the same meeting last week, FSOC also reviewed insurance giant Prudential’s status as the one remaining non-bank SIFI. The council did not reach a decision, but the consensus among experts close to the matter is that Prudential’s status as a nonbank SIFI is in jeopardy. Ten years after the financial crisis and the dramatic collapse of American International Group (AIG), FSOC is on the verge of rendering one of the key DFA protections defunct. 
  • OFR: The research arm of FSOC, the Office of Financial Research (OFR), which is charged with seeking out problems in the financial system and raising them with regulators, is being decimated under the current administration. In January, the administration signaled that it was looking to cut OFR’s budget by 25 percent, to around $76 million; in August this year, around 40 staff members were laid off, as the agency’s headcount target is down 65 percent from its peak. The current nominee to head the office, Jeb Hensarling’s chief economist Dino Falaschetti, is a curious choice given Hensarling’s complete disdain for the agency and its mission. 
  • OCC/FDIC: In April of this year, the Office of the Comptroller of the Currency (OCC) and the Federal Reserve issued a joint notice of proposed rulemaking (NPR) to make changes to the Enhanced Supplementary Leverage Capital Ratio (eSLR). This change would reduce capital requirements for the eight global-systemically important banks (G-SIBs) at their insured depository institutions by $121 billion, equivalent to a 20 percent reduction in capital. Current FDIC Chair Martin Gruenberg and two former FDIC chairs, Sheila Bair and Thomas Hoenig, have all spoken out against the NPR, arguing that the proposed changes are unnecessary and threaten financial stability.

Banks Turn to Lobbying

In an attempt to strengthen their image and weaken regulation, banks have turned more aggressively towards lobbying efforts.  Formed from a recent merger, the Bank Policy Institute (BPI) represents over 48 of the largest banks of the United States, whose combined lending accounts for 72 percent of all loans issued in the country. It is staffed by analysts, researchers, and attorneys, and is overseen by a Board of Directors consisting of some the largest names in the banking sector including the CEOs of Bank of America, Citigroup, and JP Morgan Chase.

BPI’s agenda is unsurprisingly aimed at further deregulation of the banking industry in an attempt to whittle down the regulatory regime that was established after the 2008 financial crisis. The Institute announced this week that it was hiring two top lobbyists to push for its legislative agenda. Some of their goals include lowering reserve requirement ratios and repealing self-funding requirements on lending.

Was S.2155 Worth It?

The aforementioned issues will come to a head on October 2, during the upcoming Senate Banking Committee hearing on the implementation of S.2155. There, we are likely to get a fair hearing on why risky deregulation should go forward when the sector is so flush. Fortunately for supporters of S.2155, costs of regulation are examined much more closely than costs of deregulation, a long-standing norm that makes it easier to deregulate and harder to regulate.  The SBC hearing in October will offer an excellent, hopefully balanced, picture of the benefits and the costs of S.2155, as well as a key platform for exploring the irony of deregulating this flush, prosperous, growing, systemically significant sector.

JOBS Act 3.0 — S. 2155 Redux Writ Small? (July 20)

Update 286:  If at First You Do Succeed…JOBS Act 3.0 — S. 2155 Redux Writ Small?

On Monday, a package of financial regulatory measures (deregulatory in aggregate effect), cleared the House overwhelmingly and has joined the short-list of bills on the Senate’s post-recess floor time queue.  JOBS 3.0 raises plenty of non-Dodd-Frank issues, but it also raises S. 2155 on a smaller scale, with something for everyone to loathe or love.

On a related note is an event next Tuesday, July 24, sponsored by Americans For Financial Reform:  “Regulating Wall Street – Ten Years Later.” Sens. Sherrod Brown and Elizabeth Warren are among the featured participants.  To RSVP, click here.  




JOBS Act 3.0

This week, House Financial Services Chair Jeb Hensarling and Ranking Member Maxine Waters announced a bipartisan agreement on the terms of a broad regulatory rollback package.  The legislation, entitled S.488, the JOBS and Investor Confidence Act of 2018 (or Jobs Act 3.0), is the most comprehensive package of changes to federal securities laws to pass the House with broad and bipartisan support since Congress approved the JOBS Act of 2012.  [NB: in 2015, Congress enacted a much smaller set of tweaks to securities laws as part of broader transportation reauthorization legislation, which some have dubbed “JOBS Act 2.0”.]

S.488 is comprised of 32 previously introduced bills, the vast majority of which have cleared the House or the Financial Services Committee.

This third iteration of the JOBS Act has many of the hallmarks of the JOBS Act of 2012.  It combines a number of disparate and seemingly innocuous pieces of legislation that relax or moderate various existing regulatory requirements relating to U.S. capital markets, in particular, the issuance and sale of securities.  

The House passed the package on a 406-4 vote on Tuesday with bipartisan support, including from Ranking Member Maxine Waters and Chairman Jeb Hensarling. It looks like the Senate will consider the bill in the next couple of months.

Public-Private Market Paradox

The JOBS Act 3.0 package contains provisions that simultaneously seek to encourage growth in the public market, while cutting back on regulations in the private market.

The bills include:

  • H.R.79: The HALOS Act permits issuers of private securities that are exempt from SEC registration requirements pursuant to SEC Rule 506(b) to also be exempt from certain restrictions on the use of general solicitation in the advertising and sale of such securities, further weakening investor protections in a segment of the market that is growing rapidly but plagued by fraud.

Private securities markets are appropriate for certain types of issuers and investors, but they are inherently problematic, given that they are characterized by significant risk — lack of liquidity, oversight and transparency.  The private nature of these markets also makes it difficult for investors other than large institutional investors or venture funds to obtain information about the security, or otherwise value the security.

  • H.R.5877: The Main Street Growth Act lays the statutory foundation for the establishment of one or more “venture exchanges.” The Act sets forth a process under which any national securities exchange registered with the SEC can “elect” to become a venture exchange, which is subject to different standards and rules than those that govern all other national securities exchanges in the United States.

The venture exchange provisions in S.488 build upon provisions enacted in Section 501 of S.2155 that dramatically changed the way securities can be recognized as “covered” and exempted from state review by virtue of being listed on a national securities exchange. Taken together, the two provisions will ensure that certain national exchanges in the U.S. will likely operate with significantly lower listing standards than those that currently apply to national exchanges.

  • H.R.6177: The Developing and Empowering our Aspiring Leaders (DEAL) Act requires the SEC to allow venture capital funds to invest in secondary market shares of venture capital companies instead of primary offerings, complementing the “venture exchange” piece of the larger bill by basically creating an ecosystem for trading shares in private venture companies.

This Act, together with the HALOS and Main Street Growth Acts, further blurs the distinction between public and private securities markets, expanding the “quasi-public” securities market that was the major legacy of the JOBS Act of 2012, and making it more likely that retail investors will soon be solicited and sold securities that are in many respects more speculative and risky than is currently permitted under the securities laws.

  • H.R.1645: The Fostering Innovation Act ostensibly aims to encourage IPO formation by doubling the time that low-revenue emerging growth companies (EGCs) are exempt from key financial reporting controls. However, the Act is predicted to affect less than 2 percent of publicly traded companies and is therefore unlikely to have a discernible effect on increasing the amount of IPOs. Crucially, the bill gives special treatment to EGCs, opening the door for other issuers to demand the same and potentially precipitating a “special treatment” race to the bottom. The long-term effect of lowering the bar for a few is that the bar gets lowered for all.

A Work in Progress

  • H.R.1585: The Fair Investment Opportunities for Professional Experts Act sets in statute the definition of an “accredited investor” and codifies the current thresholds for annual income and net worth. The bill would create new qualitative pathways for individuals to become accredited and attempts to address the $1 million asset threshold that was originally set by rule in 1982 by indexing it to inflation every five years. However, even with the inflation adjustments, the bill would see retirees with no experience or sophistication in investment matters qualifying as “accredited investors” by virtue of their retirement savings, or wealth realized from an event such as an inheritance or the sale of a primary residence. This bill could be amended to rectify these important issues in the Senate, but in its current form, it is an example of the unbalanced nature of some of the bills in the JOBS 3.0 package.

Regulatory Risk

Where most bills in the package relate to capital markets access, two pertain to the systemic risk pillars of stress testing and resolution planning.

  • H.R.4566: The Alleviating Stress Test Burdens to Help Investors Act exempts nonbank financial institutions from DFA company-run stress-testing requirements.
  • H.R.4292: The Financial Institution Living Will Improvement Act requires banks to submit resolution plans every two years instead of annually. These measures mimic what regulators may already decide with newfound discretion under S.2155.

Improvements to JOBS Act 3.0

JOBS Act 3.0 is modest compared to its predecessors, but underwent significant changes during its crafting. Therefore, in some cases, the bills that have been incorporated in the package are different than the previous iterations. The package has been welcomed by some institutions, such as the Council of Institutional Investors, for its provisions that address insider trading and multiclass share structure disclosure.

Unfortunately, the speed with which the package is and has been moving has made it difficult for those on and off the Hill to properly evaluate its benefits and risks. With so many moving parts, JOBS Act 3.0 needs time to be fleshed out and examined more thoroughly before concrete suggestions can be made. This is likely post-August recess.

Political Developments/State-of-Play

S.488 now moves to the Senate. With the legislative schedule packed with nominations, appropriations bills, and the Farm bill,  Senate Majority Leader McConnell announced that “Senators will continue their ongoing bipartisan discussions as we work towards a vote in the coming months.”  

Other Senators have indicated the negotiations and busy schedule could push the floor debate for at least three to four weeks.  Look for the package to reach the Senate floor after the summer recess, perhaps attached to a funding or appropriations bill, or as standalone legislation.

Progeny of S. 2155 Proliferate (June 20)

Update 280: Progeny of S. 2155 Proliferate; Hensarling’s HFSC on a Deregulatory Mission

After S. 2155, this year’s wide-ranging banking bill, was signed into law last month, House Financial Services (HFSC) Chair Rep. Jeb Hensarling—perhaps emboldened by the wide margins by which S. 2155 passed—has continued his crusade against the United States’ financial regulatory regime.   

In May, Rep. Blaine Luetkemeyer said he expected Hensarling to advance a series of securities and capital markets deregulation bills.  They have since moved quickly and are worth watching as stand-alones or attached to large legislative vehicles.




Here are the highlights for five of the most consequential bills recently adopted by Hensarling’s Committee, with varying degrees for bipartisan support.  

  • H.R. 6035, Streamlining Communications for Investors Act

The Streamlining Communications for Investors Act was introduced on June 7, by Rep. Ted Budd, a vulnerable North Carolina Republican on the DCCC’s “Red to Blue” watch list. H.R. 6035 directs the SEC to revise Rule 163(c) to allow a well-known seasoned issuer (WKSI) to authorize an underwriter or dealer to act as its agent or representative. The representative/agent acts by communicating about offerings of the issuer’s securities prior to the filing of a registration statement. H.R. 6035 cleared the HFSC along party lines 31-23.

H.R. 6035 is probably too deregulatory to survive in the Senate if passed by the House as a stand-alone, but it could still pass in a package of bills. H.R. 6035 should be on a watch list for those worried about capital markets law. As Ranking Member Waters put it in the markup, “Simply because the WKSI is familiar with the regulators doesn’t mean the security they offer is not risky.”

  • H.R. 5749, Options Market Stability Act

The Options Market Stability Act was introduced on May 10 by Rep. Randy Hultgren, a vulnerable Illinois Republican facing serious opposition from Democrat Lauren Underwood in the fall. Last week, H.R. 5749 passed the HFSC 53-0 after an amendment by Democratic Rep. Bill Foster was adopted by the full committee. The bill would implement a risk-adjusted approach to value centrally-cleared options as it relates to capital rules to more accurately reflect exposure and promote options market-making activity.  

The Current Exposure Method requires options contracts to be calculated on their notional face-value rather than through a risk-adjusted value which reflects actual exposures. Changing this calculation will incentivize the use of hedged positions and would reduce the amount of capital required to place those positions and reduce overall exposure.

Rep. Foster’s amendment to the bill would direct regulators to adopt a calculation of counterparty credit risk. After passing HFSC unanimously, H.R. 5749 has a good chance of being adopted by the Senate given its full bipartisan support.

  • H.R. 5877, Main Street Growth Act

The Main Street Growth Act was introduced in the House in May by Rep. Tom Emmer, who represents a safely Republican district in central Minnesota. On June 7, the HFSC reported the bill out 56-0.  The measure allows venture exchanges to register under the Securities Exchange Act, allowing non-public companies in their early stages to trade shares without oversight from state securities regulations. Since long-term returns from public markets generally outperform returns from venture exchanges, incentivizing venture investments over public markets investments could prove dangerous.

Some observers characterize the Main Street Growth Act as the “Jobs Act 2.0.”  The 2012 Jobs Act eased securities regulations and created a way for companies to use crowdfunding to issue securities. Consumer groups criticized the Jobs Act for potentially increasing investor exposure to fraud. There is little evidence the Jobs Act ultimately spurred much hiring, if any.

  • H.R. 5323, Derivatives Fairness Act

The Derivatives Fairness Act was introduced on March 19 by Rep. Warren Davidson, a safe-seat Republican representing a western-Ohio district. The measure cleared the House Financial Services Committee by a recorded vote of 34-26 on March 21. The bill would eliminate the requirement that banks hold capital against certain uncleared derivatives. Specifically, banks would be allowed to remove derivatives from fair value adjustment, interrupting banks’ protection against the failure of counterparties to pay derivatives obligations.

Credit valuation adjustment requirements were put in place following the 2008 financial crisis. Ostensibly, H.R. 5323 is meant to ensure that United States companies are not disadvantaged relative to their European counterparts, who pay less for derivatives. However, there is little compelling evidence to demonstrate that derivatives are negatively impacting American companies compared to their overseas competitors, and this bill is yet another proposal for deregulation without desideratum.

  • H.R. 5037, Securities Fraud Act of 2018

The Securities Fraud Act of 2018 was introduced on February 15 by Rep. Thomas MacArthur, a vulnerable Republican representing a flippable New Jersey district that Hillary Clinton won. The bill ostensibly aims to reduce state enforcement burdens on companies listed on national securities exchanges by reducing some state-level oversight on these exchanges.

The bill cites differences between state and federal civil enforcement actions, as well as the burden of dual regulatory regimes, as an encumbrance to publicly traded companies in the United States. By eliminating state regulatory requirements and oversight, the bill would jeopardize investor protections, without clear reason. The SEC also has an ongoing hiring freeze and is understaffed for its current workload; removing state enforcement would further increase the burden on the already overburdened federal regulator.

Ambiguities in the language of the bill make it unlikely to gain sufficient support to clear a house vote without revisions. H.R. 5037 is opposed by Democrats including Rep. Carolyn Maloney, the Ranking Member of the HFSC, Subcommittee on Capital Markets, Securities, and Investments. Joseph P. Borg, director of the Alabama Securities Commission, also opposes the bill, outlining the alternative avenues for capital formation (such as the private market and crowdfunding) as the real reasons behind the lack of public initial public offerings. The bill has four Republican co-sponsors: Davidson, Tenney, McHenry, and Faso and is currently in public hearings.  

Next Steps

Of the above, watch for the Options Market Stability Act and the Main Street Growth Act to advance to the Senate as viable products. Each bill earned unanimous HFSC support. Whether they are buried in the “Senate graveyard” remains to be seen. Regardless, Chair Hensarling will continue to push for deregulation until the end of his time as chair. Watch for a House Financial Services Committee markup tomorrow covering three securities bills, H.R. 5970, H.R. 6130 and H.R. 6139.

S. 2155: Critical Backward Glance (May 25)

Update 274 —  S. 2155: Critical Backward Glance

and a Sneak Peek Ahead on the Bill and Progeny

Whatever the merits of S. 2155, the current moment of good feeling surrounding 91 consecutive months of economic growth will not last forever.  If the (inevitable) downturn is sharp, the bill and its supporters may come under scrutiny for enacting the deepest and most comprehensive rollback of Dodd-Frank to date.

Opponents of the bill should take pride in holding the line in the Senate — in the five months between its introduction and the vote on final passage, the number of Democratic cosponsors went from 9 to 12.  The House Democratic leadership and whips cut support down to 17 percent of the caucus, half the amount in the Senate.

Hats off to the progressive groups who helped accomplish this result such as Americans for Financial Reform and Center for American Progress.

Good long weekends and recesses and Memorial Day all.




Counter-Intuitive, Countercyclical Economics

The regulatory rollback codified by S. 2155 is reckless from an economic standpoint. Since the Dodd-Frank Act (DFA)’s passage, the US economy has mounted an impressive recovery from the depths of the great recession. Still, the economy has not yet completed a full business cycle since DFA became law.  The protections put in place after the crisis have yet to be tested in a downturn. While it is rational to re-examine regulatory rules, it could easily turn out to be premature to begin chipping away at DFA’s foundation without sufficient time to review its total impact.

Since regulators and industry did not see warning signs in the lead-up to the great recession, giving them discretion to find the right approach to regulation after the great recession is unwise. Tailoring is dangerous when systemic risks go unseen. Beyond weakening rules for the biggest banks, expect more bad mortgages on bank portfolios with the rollbacks in qualified mortgage (QM) rules, appraisals, escrow and manufactured housing.  Additionally, the Volcker Rule change, community bank provisions, and Home Mortgage Disclosure Act (HMDA) exemptions substantially reduce disclosure. All of these factors could work together to produce the recipe for another crash.

Big Banks Win, Small Banks Stiffed

2155’s proponents argued that these rollbacks are desperately needed to help community banks that are struggling with undue compliance costs. While it might be true that community banks are closing their doors, a closer look at the legislation makes it hard to see how S. 2155 addresses these concerns.   Community banks will see some benefit to their bottom lines thanks to exemptions from Basel III rules, the Volcker rule, and the HMDA reporting requirements.

The big winners in S. 2155 are the big banks with assets between $50 and $250 billion. These big banks stand to benefit substantially from rollbacks on enhanced supervisory standards including stress tests, living wills, and capital ratios.  This is likely to set off a wave of consolidation in the industry. Historically, no factor has impacted M&A activity in the banking sector more than de-regulation, and S. 2155 is one of the most significant deregulatory bills to become law in 20 years. S. 2155 might be good for the community bankers who stand to cash out, but it will only hasten the demise of the institutions they manage.

Weak Polling in Every Region

2155 polls dismally among the voters that Democrats are relying on to take back the House in November. 67 percent of voters oppose loosening bank regulations, and a full 78 percent think that big banks have too much influence on Congress.  Possessing great instincts, Minority Leader Nancy Pelosi and House Financial Services Committee Ranking Member Maxine Waters worked hard to whip votes against the bill. With polling numbers so bad, it is little wonder that experienced Democratic leadership took pains to dissuade members from supporting the bill. On the eve of such an important election season, Wall Street campaign funding is not worth the risk of alienating a public that has little sympathy for historically profitable banks.

Lies, Damn Lies

The public has been badly misled about S. 2155’s impact, which proponents have artfully branded the “community bank bill.”  How lacking was the public information about it? In a New York Times bold call out, the paper referred this week to the legislation as “a bill to lift strict rules on small and medium banks.” Banks with between $50 billion and $250 billion are not small or medium sized. They include 25 of the 38 largest banks in the country that together hold $3.5 trillion in industry assets.

Will the GOP seem a 2155 2.0?  The bill’s champions like to say this is as far as they would ever go in rolling back DFA, but the GOP has already set its sights on the next chance to do even more damage to systemic risk rules.  The House appropriations package released just this week includes numerous riders that cut DFA further, including handicapping the SIFI designation process, mandating fewer living wills, providing stress test relief for non-banks, and directing tailoring for similarly-situated banks.

Once again, a big bank de-regulation bill has passed during improved economic times under the guise of helping the little guy.  A few years down the road, when big banks need another bailout, it will be the little guy who ends up footing the bill, he believes.. While the President calls DFA a disaster, it is S.2155-style deregulation that often becomes history’s culprit.  We not address the effect of headlines reporting campaign contributions in big dollars from the financial firms benefiting from the bill to incumbents who voted for it.

House Votes Tuesday on S.2155 (May 18)

Update 272: House Votes Tuesday on S. 2155; Big Bank Bill Carries More Than Systemic Risk

News came this week that the Senate has prevailed on the House GOP leadership to let S. 2155, the largest rollback of Dodd-Frank to date, to schedule a vote on the bill, which is now slated for next Tuesday.

It is all over but the voting, with the bill expected to pass the House by a comfortable margin.  How comfortable, and for whom? The political implications and risks for Aye votes here in a populist cycle may not be worth the headlines, despite the contributions.  See more below.

Good weekends all,



S. 2155 House Vote

Next Tuesday, the House is expected to vote on S.2155, The Economic Growth, Regulatory Relief and Consumer Protection Act. Thanks to significant Democratic support in March, the bill passed the Senate with a final vote total of 67-31.

Posturing for future employment opportunities, soon-to-retire Financial Services Committee Chairman Jeb Hensarling has since stalled the bill, pushing for even more deregulatory measures in line with recently passed House bills. Having made his point, Hensarling relented last week, and House Speaker Paul Ryan signaled that the chamber would take up S. 2155 as written.

In exchange, Senate Majority Leader Mitch McConnell agreed to take up a package of HFSC banking bills that have passed committee with bipartisan support. Initial reports suggest that the legislation might not get floor time, and might instead be attached to must-pass bills later in the year. According to Rep. Luetkemeyer, the package of House bills that will be considered by the Senate will focus on capital markets, securities, insurance, and banking.

Revisiting S. 2155 and Systemic Risk

Section 401: This provision would damage the Dodd-Frank Act’s regulatory architecture for some of the largest banks in the country. It increases the threshold for the automatic application of enhanced prudential standards from $50 billion to $250 billion in consolidated assets. These standards include stress testing, living will submissions, and a modified liquidity coverage ratio.

Proponents of the bill express comfort in the Fed’s ability to tailor the application of these standards based on the size, complexity, and risk profile of these institutions. Critics of the bill do not believe tailoring can be effective given the failure of regulators and industry actors to spot systemically sensitive parts of the sector in the lead up to financial crises.

Section 402: Under this provision, custody banks would no longer have to hold capital against funds deposited at certain central banks to meet the Supplementary Leverage Ratio (SLR). The bill defines a custody bank that would reduce capital requirements for two of the most systemically important custodial banks in the world, State Street and BNY Mellon, and would pressure Congress to expand the exclusion to even larger banks in the future.

The provision was roundly criticized by former regulators. Former Fed Chair Paul Volcker, former Fed Governor Daniel Tarullo, and former FDIC Chair Sheila Bair all raised concerns about section 402 specifically before it passed the Senate.

Fed Ready to Run with Discretion

S.2155’s defenders insist the legislation is not deregulatory, and instead supports regulatory recalibration by giving the Fed discretion to apply enhanced prudential standards to banks between $100 billion and $250 billion. Since it passed the Senate, however, Trump-era Federal Reserve rule proposals offer a glimpse into their deregulatory approach to supervisory standards, including proposals to:

  • reduce enhanced supplementary leverage ratio (ESLR) capital rules applied to Globally Systemically Important Banks (G-SIBs) and their subsidiaries.
  • alter the Stress Capital Buffer by loosening stress testing assumptions, reducing aggregate capital at the largest 34 banks by $30 billion.

Governor Brainard and FDIC Chair Gruenberg each oppose the ESLR rule proposal, which would result in the GSIB subsidiaries holding $121 billion less in capital at their FDIC-insured subsidiaries. These regulators understand what the nominees Trump has trotted out do not: neither the sector nor regulators are able to get regulations right without a structure in place to ensure systemic stability. S.2155 undermines the structure that has been in place for banks between $50 billion and $250 billion.

Vice Chair Randal Quarles as well as Fed Governor nominees Richard Clarida and Michelle Bowman appear to be of one mind when it comes to passing S.2155. Each has advocated for tailoring supervisory standards on the basis of the “size, complexity, and risk-profile” of financial institutions. While they insist they will be able to make the right choices on supervisory standards, it is hard to imagine that they or their successors will be right in every case.

Just a decade ago, regulators and industry alike fell asleep at the wheel and lead the country to crisis. In response, Congress passed the Dodd-Frank Act to prevent the system from coming apart again. Now, just as the economy is getting back to stable footing, Republicans, Trump-appointed regulators, and even some Democrats are ready to ease standards for some of the largest banks in the country.

Democrats in Support: Not Just Systemic Risk

Americans this cycle have been especially clear  about their discontent with the appearance and reality corruption in national politics,  Supportive Democrats — incumbents this year — supported S. 2155 and took a gamble..and got scorched with banner front-page headlines and embarrassing stories in some of their largest in-state papers.

With the midterms looming, indications are that Democratic support for the bill is waning relative to support it received in the Senate only two months ago.   Minority Leader Pelosi and Ranking Member on HFSC Maxine Waters are actively rallying Democrats in opposition to the bill.While a number of House Democrats appear ready to add their names to the bill, observers predict Democratic support in the House will fall below 70 votes.


Dereg Now, Dereg Whenever (Apr. 25)

Update 266 – Dereg Now, Dereg Whenever:
Capital Rules Debate Pits Quarles vs. Quarrels

If rapidly increasing economic growth, historic highs in financial industry profits, and capital markets in record territory of late all call for deregulation, there’s no bad time for it.  And if proponents of financial deregulation control the House, Senate, and White House — for now — this is most certainly the time, regardless of sectoral circumstances.

Here’s the story of the GOP working with financial regulators and market participants to bring down the “hairpin turn ahead” sign because no more accidents were occurring.




Last Week, Federal Reserve Vice-Chair for Supervision Randal Quarles appeared before House and Senate Committees to answer questions on his approach to supervisory standards.  In recent weeks, the Fed has issued revisions to a number of fundamental post-crisis standards. Quarles’ innocuous words like “efficiency” and “recalibration” belie the serious systemic implications these rulemakings have.  Leading regulators at the Fed and other regulatory bodies have raised important objections.

This while a Senate Banking bill, S.2155, sits at the doorstep of the House.  The Economic Growth Regulatory Relief and Consumer Protection Act would empower the Fed to free 25 of the largest 34 banks from stress testing, living wills, and the liquidity coverage ratio.  Quarles’ rulemakings suggest he is eager to tailor the same DFA pillars that S.2155 would deregulate.

These efforts look like a solution in search of a problem. The banking sector has been unprecedentedly profitable for three years running, lending remains strong, and the economy as a whole is gaining steam.

GOP Regulatory Pref: Capital over Supervisory

Reduced capital levels run counter to what some Republican appointees and officials have suggested about the value of capital requirements. In 2016, then-Chair of the Senate Banking Committee Richard Shelby said that for years, he has “urged regulators to implement strong capital standards.”  Just a year ago, Jerome Powell suggested capital levels were just right. Now in power, conservatives seem determined to relax rules for the largest banks under the guise of “modernization,” a familiar deregulatory term.

Capital Regimes Pre- and Post-Crisis

Capital held by the five largest banks doubled from 2008 to 2015, but only from 3 percent to 6 percent. Today, equity capital requirements range from 7 percent to 11 percent of risk-weighted assets, but it appears Quarles is primed to permit a reduction in capital levels.

Proposed Revisions

Enhanced Supplementary Leverage Ratio (ESLR) – On April 11, the Federal Reserve and the Office of the Comptroller of the Currency (OCC) issued a proposal to reduce the enhanced supplementary leverage ratio capital rules applied to Globally Systemically Important Banks (G-SIBs) and their subsidiaries. The proposal’s impact varies from bank to bank, but would slash some ESLR by up to 40 percent. Currently, G-SIBs must maintain a minimum SLR of more than 5 percent (3 percent plus a 2 percent buffer). G-SIB subsidiaries must maintain a 6 percent SLR. The new proposal would take the 2 percent buffer and turn it into a figure equal to one half of the firm’s GSIB surcharge. Subsidiaries’ SLRs would fall from 6 percent after similar tailoring.

•  The FDIC estimates this will result in the GSIB subsidiaries holding $121 billion less in capital at their FDIC-insured subsidiaries. Quarles sought to temper critics who cite this figure by predicting that aggregate capital will fall by just $400 million among bank holding companies. Nevertheless, the discrepancy here is troubling, indicating the Vice-Chair does not see systemic risk residing in subsidiaries across these firms’ operations. In the past, it was the norm for the regulatory bodies like the Fed and FDIC to be on the same page when it comes to capital requirements.

Stress Testing/Capital Buffers – On April 10, the Federal Reserve proposed a new “stress capital buffer” that totals the amount equal to losses incurred during a hypothetical stress test or 2.5 percent, whichever is greater. The revision would replace the existing requirement that 2.5 percent of risk-weighted assets be held as capital. It also replaces the quantitative objection to a firm’s capital plans under CCAR.  Under the new proposal, if a bank has common equity tier 1 capital of 8 percent and it falls to 5 percent, the bank’s stress capital buffer would be 3 percent. This would be added to the minimum 4.5 percent common equity requirement to total 7.5 percent. Federal Reserve estimates suggest this will lead to increased capital among GSIBs, but lower levels of capital among non-GSIBs.

Some analysts are concerned, however, that the loosening of assumptions related to balance sheet growth and the time horizon for expected dividend payments, would ultimately reduce overall capital levels. Recent stress testing data projects these proposals would lower capital at major banks by $30 billion. Goldman Sachs expects the eight largest banks to reduce equity capital by $54 billion as a result of potential stress test changes.

New accounting standard for loan losses – Federal reserve rules include a new accounting standard for loan losses.  This is significant, as it requires banks to forecast and set aside money for easily foreseeable loan losses before they occur. In the lead up to the financial crisis, banks were not recognizing losses well. Since capital rules are in place to guard against unforeseen losses, combining loan loss projections (for anticipated losses) with capital requirements is potentially dangerous.


Source: Federal Reserve Bank of Atlanta; Federal Financial Institutions Examination Council; Journal of Economic Perspectives; Keefe, Bruyette & Woods; regulatory filings


Brainerd on Cyclicality – In the first dissent since the Federal Reserve began to publicly disclose votes, Governor Lael Brainard voted in opposition to a rule that slashes the enhanced supplementary leverage ratio. In a recent speech, Brainerd said it was too soon to consider lowering capital requirements for big banks and urged against making judgements about the current capital and liquidity coverage before a full economic cycle has been completed.

•  Gruenberg on ESLR – FDIC Chair Martin Gruenberg reaffirmed support for the SLR set in 2014, refusing to join the Fed and OCC in issuing the new proposed rule. Gruenberg said leverage ratio requirements are “among the most important post-crisis reforms,” and that “the existing simple approach has served well in addressing the excessive leverage that helped deepen the crisis.”

•  Sen. Warren – At last week’s Senate Banking Committee hearing, Sen. Warren reminded Vice Chair Quarles that taxpayers were left holding the bag when the big banks didn’t hold enough capital. Under the new rule, JP Morgan, Citigroup, and Morgan Stanley could reduce capital by more than 20 percent at their bank subsidiaries and still meet leverage capital requirements. Wells Fargo and Bank of America can each reduce their capital by more than 15 percent.

•  Wall Street Journal – Even the Wall Street Journal’s editorial board criticized the Fed’s proposed supplementary leverage ratio reduction. The board pointed out that the current 6.6 percent leverage ratio among GSIBs is only slightly greater than their losses during the stock market crash in 2008. Reducing them any further would only endanger the system, the editorial board argued.

S. 2155 in this Context

These proposals reflect Quarles’ apparent objective, to include risk-profiling in the financial regulatory capital regime.  Increased tailoring of enhanced prudential standards has been a primary post-crisis goal of congressional Republicans. Critics see tailoring as little more than a euphemism for sotto voce deregulation.

When a handful of Senate Democrats joined with Republicans to pass S. 2155, they voted to give the Federal Reserve a wide purview to tailor enhanced prudential standards on a variety of fronts for banks between $100 and $250 billion in assets.  These pillar revisions include changing the approach to company run stress tests, living wills, and liquidity requirements.

Faced with congressional questioning about how he would customize supervisory standards, Quarles highlighted four key risk profiles for supervisory standards on an individual bank– size, complexity, interconnectedness, and character of bank portfolios. In a rare case of a GOP-led Senate bill ceding authority to the Fed, S. 2155 gives the Fed sweeping discretion to tailor systemic risk rules set by DFA.

What’s Next?  Rules on Fed’s Radar

In his testimony, Quarles hinted more deregulation is on the way at the Fed.  Before the HFSC, Quarles attacked the Volcker Rule, implied he would reduce the risk-based capital surcharge at some of the nation’s largest banks, and hinted that he wanted to end limits on capital distributions due to weakness in risk management at large banks. In front of the Senate, Quarles outlined his plans improve the “regulatory efficiency” of stress testing, calibrate the LCR for non-GSIBS, and enhance stress testing transparency.

While Quarles is powering ahead, S. 2155 is currently held up in the legislative progress. The bill passed a Senate floor vote more than a month ago, 67-31, but has since been held up in the House. This is because Rep. Jeb Hensarling, the outgoing Chairman of the House Financial Services Committee, is refusing to rubber stamp the legislation. For the moment, he has the backing of House Republican leadership. Negotiating with Hensarling would surely involve making the bill more deregulatory, and that would risk alienating cosponsoring Democrats and dissolving the bill’s bipartisan backing.