The U.S. Department of the Treasury (“Treasury”) reviewed the Financial Stability Oversight Council’s (“FSOC”) processes for non-bank financial company and financial market utility designations (“FMUs”). FSOC’s memorandum included commentary and recommendations for improvements of the process (see memorandum and fact sheet on memorandum).
Treasury outlined five policy goals for FSOC processes: (i) leverage expertise of primary financial regulatory agencies, (ii) promote market discipline, (iii) maintain a level playing field for firms, (iv) tailor regulations to minimize burdens, and (v) ensure rigorous, clear and transparent designation analyses.
Specific to the non-bank financial company determination process, Treasury recommended that FSOC prioritize an activities-based, industry-wide approach to financial stability risk management. Implementing this approach would consist of (i) identifying potential risks of activities and products, (ii) collaborating with financial regulators to address identified risks, and (iii) evaluating firms for designation in consultation with regulators. Further, Treasury recommended that FSOC take a firm’s likelihood of material stress into account and conduct a detailed cost-benefit analysis before making a designation. Treasury also suggested that FSOC improve transparency and more clearly communicate the risks that led to a designation and steps to take to appropriately “off-ramp.”
Regarding FMUs, Treasury recommended that FSOC enhance its designation process to more appropriately tailor it to individual firms. Treasury suggested that FSOC conduct further studies related to FMU operation, designation and resolution (e.g., potential access to Federal Reserve emergency facilities). Treasury also encouraged regulatory agencies to cooperate in order to develop effective strategies to enhance resilience and improve the resolution process. Further, Treasury recommended that FSOC integrate a cost-benefit analysis into the designation analysis process, enhance transparency and engagement with FMUs, and leverage expertise of primary regulators to inform regulatory and supervisory strategies.
Lofchie Comment: While improving the transparency of the FSOC process would be a significant improvement on FSOC’s operations to date, it would be better still to rethink (and to some extent junk) the discretionary designation process. The government should not have broad discretion to pick and choose on a subjective basis the firms that are to be subject to regulation. It should be easy enough to draft legislation that provided specifically for the regulation of large financial market utilities. Likewise, if Congress believes it necessary to regulate insurance companies over a certain size, then Congress should adopt legislation to that effect. Establishing and maintaining this precedent of subject determination of entities that are to be regulated is a bad idea, even if it is carried out less badly.