House Holds Hearing Regarding FSOC 2015 Annual Report

The House Financial Services Committee held a hearing on the Annual Report of the Financial Stability Oversight Council. Secretary of the Treasury Jacob Lew’s testified.

In his remarks, Secretary Lew reported that the FSOC 2015 report focuses on 11 themes that warrant “continued attention” and further action. In particular, FSOC recommended:

  • the establishment of a national plan for cyber incident responses to the private sector, coordinated by the Treasury, in order to identify and articulate the roles of law enforcement, the Department of Homeland Security and financial regulators regarding cybersecurity;
  • that supervisors, regulators and firm management continue to closely monitor and assess the heightened risks resulting from continued search-for-yield behaviors, as well as the risk of potential severe interest rate shocks;
  • that its members and member agencies “remain vigilant to the confluence of factors driving changes in market structure,” and that regulators enhance their understanding of firms that may act like intermediaries while remaining outside the regulatory perimeter;
  • that the Board of Governors of the Federal Reserve System, the CFTC and the SEC coordinate the supervision of all central counterparty clearinghouses closely and evaluate whether recently enhanced rules and standards are “sufficiently robust” to mitigate potential threats to financial stability;
  • a “timely resolution” to the weak economic growth and political uncertainty in Greece, as well as reforms to fiscal policy tools and other structural issues in a number of advanced economies to help support monetary policy;
  • continued efforts by regulators to promote the full implementation of Orderly Liquidation Authority by phasing in enhanced prudential standards in the coming years; and
  • that U.S. regulators cooperate with foreign regulators regarding their assessments of market practices for benchmarks and reference rates.

At the hearing, Secretary Lew answered a number of questions about the report and discussed several other topics, including liquidity, systemically important financial institution designations, the oversight of the asset management industry, access to capital and trade negotiations, among others.

Lofchie Comment: A number of the major risks cited by Secretary Lew are government induced; i.e., (i) the so-called “search for yield” created by extraordinarily low interest rates, (ii) the vulnerability of the markets to clearinghouse failures (though clearinghouse failure is less of a risk than a sudden increase in clearinghouse margin, which would create a liquidity drain), (iii) the movement of financial activities away from regulated entities (in light of regulatory burdens) and (iv) continued uncertainty regarding the housing market. (In terms of government-induced problems, Greece’s don’t apply here, since its government is not the same as ours.) To put it differently: in order for the United States to have a sound financial system, the government must examine its own activities and rules using the same critical approach with which it examines the activities of private market participants. If it did so, it might reach the conclusion that there were areas where its regulations, however well intended, actually did harm.