Banking Agencies Extend Transitional Regulatory Capital Rules

The Office of the Comptroller of the Currency, the Board of Governors of the Federal Reserve System and the FDIC (collectively, the “agencies”) issued a final rule extending current transitional provisions under the capital rules for certain capital deductions, risk weights and minority interest requirements. The final rule extends provisions that were set to relinquish at the end of the year. The extension is only applicable to banks that are not subject to the capital rules’ advanced approaches (institutions with total assets under $1 billion).

As previously covered, the agencies in 2013 adopted more stringent capital requirements for banking entities and organizations. These rules established certain limits on minority interests (i.e. on including assets owned by subsidiaries in regulatory capital calculations), as well as other mandates for deducting certain assets from an organization’s regulatory capital. The rules were subject to transitional provisions that allowed organizations to make appropriate preparations for the new requirements. In September 2017, the agencies proposed related capital rule simplifications that would make changes related to the treatment of certain loans, items subject to threshold deduction, and minority interest requirements. As stated in the Financial Institution Letter FIL-60-2017, the final rule extends the 2017 transition provisions for “Mortgage servicing assets; Deferred tax assets arising from differences that could not be realized through net operating loss carrybacks; Significant investments in the capital of unconsolidated financial institutions in the form of common stock; Non-significant investments in the capital of unconsolidated financial institutions; and Significant investments in the capital of unconsolidated financial institutions that are not in the form of common stock.”

CFS Monetary Measures for October 2017

Today we release CFS monetary and financial measures for October 2017. CFS Divisia M4, which is the broadest and most important measure of money, grew by 5.1% in October 2017 on a year-over-year basis versus 4.8% in September.

For Monetary and Financial Data Release Report:

For more information about the CFS Divisia indices and the data in Excel:

Bloomberg terminal users can access our monetary and financial statistics by any of the four options:

3) {ECST} –> ‘Monetary Sector’ –> ‘Money Supply’ –> Change Source in top right to ‘Center for Financial Stability’
4) {ECST S US MONEY SUPPLY} –> From source list on left, select ‘Center for Financial Stability’

Treasury Makes Recommendations on FSOC Designation Processes

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.

CFPB Director Richard Cordray to Resign

Consumer Financial Protection Bureau (“CFPB”) Director Richard Cordray announced his resignation.

In a memo sent to CFPB colleagues, Mr. Cordray touted achievements during his tenure including (i) $12 billion in relief for consumers, (ii) stronger safeguards against certain mortgage practices, (iii) the processing of 1.3 million consumer complaints, and (iv) new financial education and literacy initiatives.

House Financial Services Committee Chair Jeb Hensarling (R-TX) expressed his view that Mr. Cordray’s resignation represents an opportunity to rein in the authority of the CFPB:

“We are long overdue for new leadership at the CFPB, a rogue agency that has done more to hurt consumers than help them. . . . The extreme overregulation it imposes on our economy leads to higher costs and less access to financial products and services, particularly for Americans with lower and middle incomes.”

In contrast, Committee Ranking Member Maxine Waters (D-CA) thanked Mr. Cordray for his efforts and praised the work accomplished during his tenure:

“Under his outstanding leadership, the Consumer Bureau has made the financial marketplace stronger and fairer for hardworking Americans across the country. As the first Director of the Consumer Bureau, he has overseen the implementation of much needed rules on mortgages, prepaid cards, and payday and auto title loans, clamping down on unfair practices and ensuring that consumers are not ripped off.”

Mr. Cordray was nominated to serve as the first Director of the CFPB by President Barack Obama in 2011.

Lofchie Comment: Mr. Cordray’s resignation presents an opportunity to restructure the CFPB in a manner that is consistent (i) with the bipartisan structure of other agencies, and (ii) that gives Congress and the President authority over the agency, including budgetary authority.

The existing regulatory structure now gives President Trump the ability to appoint a new head of the CFPB to serve a five year term. Without a change in structure, the new appointee will serve regardless of whether the President is re-elected or there is a new President that has different priorities. That simply makes no sense.

Likewise, the degree of authority given to the head of the CFPB is not prudent. The position is not directly accountable to the President and any appointee cannot be fired except in extraordinary circumstances. Either the head of the CFPB should be subject to dismissal by the President or the CFPB should be run by a five-person commission that would include persons who could provide some check on the director’s power.

CFTC Commissioner Behnam Evaluates Implementation of Derivatives Reforms

Commissioner Rostin Behnam identified four key reform priorities: mandatory clearing, exchange trading of standardized swaps, swap data reporting, and capital and margin requirements for non-centrally cleared swaps.

In remarks at the Georgetown Center for Financial Markets and Policy, Commissioner Behnam expressed support for the “broad policy objectives” in Title VII of Dodd-Frank and said that the CFTC acted as a “leader” in implementing over-the-counter derivatives reforms in the wake of the 2008 financial crisis. He acknowledged that these changes have come with “costs and unintended consequences,” and expressed support for ongoing regulatory adjustments.

Commissioner Behnam identified four key reform priorities:

  • Mandatory clearing of swaps: Commissioner Behnam said that the clearing mandate has been largely successful, but questioned the size and interconnectedness of clearinghouses, and whether the clearing mandate and higher capital and margin requirements for uncleared swaps have “disincentivized risk management.” He said that the CFTC will evaluate the potential systemic effects of the clearing mandate, and that he will seek to bolster regulations to promote a safer clearing ecosystem.
  • Exchange trading of standardized swaps: Mr. Behnam noted the unintended consequences of the CFTC’s trading rules that have caused concerns as to market fragmentation and liquidity.
  • Swap data reporting: Mr. Behnam argued that the CFTC needs to develop requirements that establish “clear parameters” for data collection and submission, including when data must be submitted, as well as what form the data must take. He stressed the need for data set uniformity, both across the CFTC and with international regulators.
  • Capital and margin requirements for non-centrally cleared swaps: Noting that the CFTC has yet to adopt capital requirements for swap dealers, Mr. Behnam urged the CFTC to develop tools to monitor market resiliency, safety and liquidity in times of stress.

Mr. Behnam also highlighted three ongoing issues at the CFTC: enforcement, international cooperation and technology. In each case, he expressed general support for ongoing initiatives. As sponsor of the Market Risk Advisory Committee, Commissioner Behnam said he will engage in a “listening tour” to hear perspectives on risk management from market participants, regulators and other interested parties.

Lofchie Comment: Commissioner Behnam’s first published speech covers a lot of ground, but does not suggest that there are new initiatives that he will spearhead or that there are current initiatives that he opposes. Instead, Mr. Behnam indicates he will be in observation mode for the first part of his tenure.

In many ways, Mr. Behnam’s speech is similar to the speech given by CFTC Chair J. Christopher Giancarlo on Monday. Both Mr. Giancarlo and Mr. Behnam expressed broad support for the policy aims of Title VII of Dodd-Frank while noting a number of ways in which the current derivatives regulatory framework can be upgraded (including a handful of shared takes). One important difference may be that Chair Giancarlo believes that there were substantial problems with the CFTC’s prior rulemakings. Commissioner Benham’s remarks seem to suggest a position closer to those of former CFTC Chair Timothy Massad, who referenced the need only to “fine tune” the CFTC Title VII rules. Chair Massad never conceded the existence of material issues or attempted any significant revisions to existing rules. Given that Commissioner Benham was last in the office of Senator Stabenow (D. from Michigan), it is reasonable to expect that Chair Giancarlo intends a more ambitious clean-up of the CFTC’s rules than former Chair Massad attempted or than Commissioner Benham may be willing to support.

OFAC Updates FAQs on Venezuelan Economic Sanctions

The U.S. Treasury Department (“Treasury”) Office of Foreign Assets Control (“OFAC”) published two Frequently Asked Questions (“FAQs”) related to economic sanctions against Venezuela.

The first FAQ (No. 547) discusses U.S. person participation in meetings concerning the restructuring of Venezuelan and Petroleos de Venezuela, S.A. (“PdVSA”) debt that existed prior to the effective date of Executive Order 13808 (“E.O. 13808”). The second FAQ (No. 548) addresses the treatment of PdVSA subsidiaries under E.O. 13808.

As previously reported, E.O. 13808 – issued on August 24, 2017 – levied restrictions to prevent U.S. persons from contributing to the Government of Venezuela’s “shortsighted financing schemes.” With certain exceptions reflected in four General Licenses issued by OFAC on the same date, E.O. 13808 generally restricted transactions with respect to the following:

  • new debt with a maturity of longer than 90 days of PdVSA (Venezuela’s state-owned oil and natural gas company);
  • new debt with a maturity of longer than 30 days, or new equity, of the Government of Venezuela;
  • bonds issued by the Government of Venezuela before the effective date of the Executive Order;
  • dividend payments or other distributions of profits to the Government of Venezuela from any entity owned or controlled, directly or indirectly, by the Government of Venezuela; and
  • purchasing securities, directly or indirectly, from the Government of Venezuela, other than new debt with a maturity of less than or equal to 90 days (for PdVSA) or 30 days (for other Government of Venezuela debt).

CFTC Chair Giancarlo Urges SEF Reform and Improved Stress Testing of CCPs

CFTC Chair J. Christopher Giancarlo encouraged (i) reforming the rules recently adopted for regulating swap execution facilities (“SEFs”) and (ii) engaging in collaborative efforts with other regulators to improve the stress testing of central counterparties (“CCPs”).

In remarks before the ISDA Regulators and Industry Forum in Singapore, Chair Giancarlo expressed support of the swap market reforms adopted by Congress in 2010, but criticized the CFTC’s prior rulemakings. He stated:

“[F]inancial regulators have a duty to apply the policy prescriptions of their legislators in ways that enhance markets and their underlying vibrancy, diversity and resiliency . . . [and t]hat duty also includes the responsibility to continuously review past policy applications to confirm they remain optimized for the purposes intended.”

Regarding rules governing the operation of SEFs, Chair Giancarlo criticized the CFTC for “attempt[ing] to re-engineer the entire market structure of swaps execution” and “dictat[ing] the business models of the SEFs themselves.” Chair Giancarlo claimed that this approach is not conducive to liquidity formation. He asserted that the regulatory framework and incongruous rules and regulations have had several “unintended” consequences, including a shift of swaps price discovery and liquidity formation from SEFs to introducing brokers. This shift, Chair Giancarlo argued, is antithetical to the intended purpose of swaps regulations and the goals of Dodd-Frank.

Chair Giancarlo criticized the CFTC’s role in not allowing SEFs to develop their own business models and in implementing “prescriptive and inflexible rules.”

Regarding swaps clearing, Chair Giancarlo explained that default risk is now managed within regulated CCPs. He emphasized the importance of the stress testing recently conducted by the CFTC in measuring the resiliency of CCPs. Recent results demonstrated the ability of three major CCPs to withstand simultaneous default of two significant clearing members, he said. Further, Chair Giancarlo promised the continued development of multi-CCP stress testing in order to create a framework that is “thorough, data driven, econometrically sound and reflective of multi-CCP operations and their role in dynamic market ecosystems.” He encouraged cooperation with the SEC and banking regulators in order to improve upon previous stress tests, and expressed confidence that collaborative efforts will continue to develop over the course of the next year. Chair Giancarlo also noted that he is open to receiving stress testing-related input from European regulators, but reiterated his opposition to certain European Union proposals that would subject certain U.S. CCPs to European oversight.

Lofchie Comment: Chair Giancarlo’s remarks are a blunt criticism of prior rulemakings. Mr. Giancarlo has been consistent in arguing that while the government should regulate markets, it should not dictate or re-invent market structures (and, if it is so ambitious as to do so, it should at least check whether its dictates are having the intended effect). Notwithstanding this criticism of prior rulemakings, the Chair has nothing but good things to say about Dodd-Frank. Even those who do not share this optimism are hoping that he is able to make a silk purse from a sow’s ear.

Those who have a view as to how the swaps markets should function should be seeking this opportunity to get their views in front of the CFTC. While some of the major market participants have already expressed their thoughts through the CFTC’s “KISS” project, the fix of the CFTC’s existing rules will take a good bit of time, and there is thus still opportunity for diverse views to be heard. Further, given that the existing CFTC rules did not draw support from either the buy-side or the sell-side, it is hard to imagine that there is much support for the status quo.

SEC Chair Jay Clayton Sets “Near-Term” Regulatory Goals

SEC Chair Jay Clayton laid out near-term narrowly focused regulatory goals and committed the agency over the long term to greater transparency. The set of priorities will be published as part of the federal government’s Unified Agenda.

In remarks at the Practical Law Institute’s 49th Annual Institute on Securities Regulation, Chair Clayton discussed the SEC approach to developing the agency’s five-year strategic plan while articulating short-term narrowly focused efforts. He identified the following immediate efforts:

  • Initial Coin Offerings (“ICOs”): ICOs are vulnerable to price manipulation and other fraudulent actions. The SEC will continue to take steps to warn investors about the enhanced risks presented by ICOs, and to protect market participants from some of these risks. The SEC plans to offer clarification as to (i) how tokens are listed on exchanges (and the standards for listing), (ii) how tokens are valued, and (iii) what protections exist for investors and market integrity.
  • Fee Disclosures: Hidden or inappropriate fees and expenses can harm investors. The SEC will pursue enforcement for fee disclosure-related cases, and look to clarify fee disclosure requirements in order to reduce opportunities for misconduct.
  • Penny Stocks: Reliable information is often unavailable for penny stock issuers. The SEC will seek to expose some of the “opaque aspects” of the penny stock market.
  • Transaction Processing: Transfer agents are “well-positioned” to prevent the distribution of unregistered securities. The SEC will monitor transaction processing, particularly with regard to restricted securities.
  • Investor Education: The SEC is creating a searchable database that will contain information on individuals who have been barred or suspended due to federal securities law violations.

In terms of long-term initiatives, Chair Clayton identified shareholder engagement and the proxy process as an area of focus. He emphasized the importance of proxy rules in providing an avenue for shareholder engagement, and said the SEC will conduct a close examination of whether the current rules are effectively meeting both shareholder and company needs. Chair Clayton explained further that voting power often sits with investment advisers rather than shareholders, thereby limiting shareholder participation rates in the proxy process. He stated that the proxy process may demand a review and corresponding updates to ensure that long-term retail investors are fairly represented in corporate governance. Regarding shareholder proposals, Chair Clayton said the SEC intends to find common ground between the viewpoints held by all stakeholders. This will include an examination of ownership level thresholds for the submission of shareholder proposals and the resubmission process.

Chair Clayton highlighted the importance of transparency in the securities markets. He noted that enforcement plays an important role in ensuring transparency, and stressed that transparency can play a role in deterring, mitigating or eliminating wrongdoing before an enforcement action becomes necessary.

Lofchie Comment: From a financial policy standpoint, the SEC’s renewed focus on its traditional economic missions (good disclosure, investor protection) is an important change in priorities. When combined with a rulemaking agenda that is limited to achievable and announced goals, businesses are better able to prepare.

Congrats Randal Quarles on Fed Appointment…


Congratulations to Randy Quarles for his appointment and confirmation to serve as the Vice Chairman of the Federal Reserve Board.

CFS is thankful for Randy’s early and constant support of our organization. As an Advisory Board Member and Trustee, he has been a source of wisdom on a wide range of topics. In particular, his involvement in “Bretton Woods: The Founders and Future” was especially productive and meaningful. The inspiration and encouragement from Randy will continue to guide CFS especially as we plan to honor the 75th anniversary of the birth of the international financial system and think strategically about the future.

See “Summary and Next Steps  – Bretton Woods: The Founders and Future.”

Randy is uniquely experienced, remarkably learned, and thoughtful on virtually any monetary, regulatory, or related legal topic. Likewise, few to none are more honorable in character.

We wish him the best at the Fed.

CFTC Chair J. Christopher Giancarlo Criticizes “EU Plan to Invade U.S. Markets”

CFTC Chair J. Christopher Giancarlo warned of the potential negative effects of European regulatory changes on U.S. financial markets.

In an Opinion/Commentary in The Wall Street Journal, Chair Giancarlo argued that as a result of Brexit pushing London financial markets outside of the European “regulatory umbrella,” the European Commission is proposing to delegate regulation of non-European Union entities to the European Central Bank (“ECB”) and the European Securities and Markets Authority (“ESMA”). Chair Giancarlo is concerned that U.S. financial institutions would now be subject to European regulatory oversight. In particular, he is concerned about potential European Commission regulations that might allow ESMA to conduct on-site inspections of U.S. businesses, like the Chicago Mercantile Exchange, without informing the CFTC.

Chair Giancarlo asserted that such regulatory measures would negatively affect U.S. markets, and potentially “dry up the capital necessary for growth and job creation.” Chair Giancarlo argued that “overlapping” regulation inhibits growth, and said that U.S. acceptance of European regulation would represent a “dangerous precedent.” The “rules-based” European approach contrasts with the “principles-based” U.S. approach, he said, and so any imposition of additional burdens is the “last thing” that the American economy needs.

Lofchie Comment: Not so long ago, CFTC Commissioners were imagining the adoption of U.S. regulations that would have required the rest of the world to acquiesce. CFTC Commissioner Chilton Delivers Speech before International Regulators Conference (with Lofchie Comment). The current Chair is now left to see if peace can be made.