A Round with the Regulators

Update 532 — A Round with the Regulators:
Financial Policy Issues Left, Front and Center

These are flush times for banks — lending volume, interest rates, and share prices are on the rise and the economy is primed for a vertical recovery. What could go wrong? This week, Congress heard from the heads of the financial regulatory agencies, both Biden appointees and Trump holdovers, to look at risk (e.g. inflation). 

Regulators addressed this and the panoply of other risks and issues confronting them currently. And, beyond their concerns, they offered hints of their policy priorities and affirmative agendas. We survey their testimony and key related legislation below. 

Good weekends all…

Best,

Dana
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On Wednesday, heads of the four federal banking regulatory agencies testified before the House Financial Services Committee. During COVID, banks managed to weather the storm in large part due to capital and liquidity requirements set by the Dodd-Frank Act. But new challenges have arisen in the form of cryptocurrencies, asset inflation, SPACs, among others, which will require a fresh outlook and forward-looking financial policy. Recent actions by Biden-appointed regulators suggest that a reversal of Trump-era deregulatory policy is underway. 

Prudential Regulators Hearing

Wednesday’s hearing featured testimony from: 

• Federal Reserve Vice Chair for Supervision Randal Quarles 
• Acting Comptroller of the Currency Michael Hsu 
• Federal Deposit Insurance Corporation Chair Jelena McWilliams 
• National Credit Union Administration Chair Todd Harper 

Hsu and Harper were appointed to their positions during the current administration; Quarles and McWilliams are Republican holdovers from the Trump administration. While Committee Democrats raised concerns about recent deregulation, Republicans criticized the regulators’ growing efforts to evaluate climate risk and rehashed concerns about rising inflation. 

The witnesses sent mixed signals on regulatory policy moving forward. Quarles testified that a strong economic recovery is underway. He credited the Fed’s supervisory stress-testing program for preparing banks for the crisis. One of the Fed’s highest priorities this year will be to finalize Basel III reforms, which could greatly lower the required leverage of big U.S. banks. 

Quarles also downplayed the prominent downfall of the “family fund” Archegos, arguing that the incident did not demonstrate problems with current supervision or regulation. Quarles maintained the Fed’s expectation that inflation this year will be transitory. He even cautioned that pushing too far to address inflation now could “constrain” the recovery.

Hsu, who was recently appointed Acting Comptroller by Treasury Secretary Janet Yellen, struck a much different tone. He testified that the banking system, particularly the big banks, are potentially becoming complacent, posing a threat to the financial sector due to insufficient risk management. Hsu also took the strongest stance among the four regulators in emphasizing the need to reduce inequality in the financial sector and address climate risk. 

Agency Agendas: Financial Regulation

The Biden administration is making its mark on financial policy. Agencies led by Biden appointees like the OCC and SEC have already moved in a progressive direction. But the Fed continues to deregulate.

• Federal Reserve: Per Quarles’ testimony, the Fed will likely continue its Trump-era policy of rolling back regulations over the banks it supervises. In March, the Fed announced that it will end temporary limitations on banks to engage in stock buybacks and make dividend payments. The Fed has continued to use a weak stress testing regime and declined to rescind a proposal to significantly lower capital requirements for the biggest banks. The Fed did end its temporary relaxation of the supplementary leverage ratio, which requires banks to hold capital equal to a certain percentage of its assets.

A key question for President Biden is whether to reappoint Jerome Powell as Fed Chair. While Powell has mostly pleased everyone by maintaining an accommodative monetary policy through the pandemic, his record on supervision is weaker. His term ends in February. 

• OCC: The Office of the Comptroller of the Currency’s deregulatory zeal during the Trump administration has seemingly come to an end under Hsu. The OCC announced this week that it will be reconsidering a 2020 rule on the Community Reinvestment Act that could have significantly weakened that legislation. (The proposed change was so drastic that the Fed and FDIC declined to sign on.) The OCC also announced earlier this year that it will pause a proposed rule from the end of the Trump administration that would prohibit banks from denying services to gun manufacturers and fossil fuel companies. 

• FDIC: In December, the FDIC approved a rule establishing supervisory standards for parent companies of industrial loan companies (ILCs). Last year, the FDIC granted ILC charters to two fintech companies, and General Motors applied for an ILC. An ILC charter allows non-bank and non-financial companies to engage in banking activities without being subject to the Banking Holding Company Act. Members from both parties have expressed concerns that this could lead to a mixing of commercial and banking activities. 

• SEC: As the newly confirmed chair of the Securities and Exchange Commission, Gary Gensler has his hands full. Asset inflation and market volatility are immediate challenges. Many expect a more aggressive stance in monitoring cryptocurrencies. Last week, the SEC warned investors against holding bitcoin futures in mutual funds. Additionally, Gensler will look into new reporting requirements for environmental, social, and governance (ESG) issues as well as for “family funds” like Archegos.

Financial Regulation Bills on the Hill

Democrats in Congress are advancing legislation on financial policy. The key bills include: 

• True Lender Repeal: Last week, the Senate passed a resolution, S.J. Res. 15, under the filibuster-proof Congressional Review Act to repeal the OCC’s “true lender” rule by a vote of 52-47. The rule would allow lenders to circumvent state laws designed to keep interest rates low on consumer loans. Critics have argued that the rule would support predatory lending and “rent-a-bank” maneuvers, harming both consumers and small businesses. The repeal resolution is expected to pass the House and receive Biden’s signature.

• Comprehensive Debt Collection Improvement Act: H.R. 2547, sponsored by House Financial Services Chair Maxine Waters, protects consumers from abusive debt collection practices. The bill expands consumer protections for private student loans, places restrictions on reporting medical debt to consumer credit reports, and expands borrowers’ ability to be heard in court. The bill recently passed the House on a near party-line vote.

• Federal Reserve Racial and Economic Equity Act: H.R. 2543 modifies the Federal Reserve’s mandate to include closing the racial employment and wage gaps. Given the Fed’s unique ability to fix systemic barriers to labor entry and capital acquisition, the bill — recently advanced through HFSC — would have a potentially transformative impact. A companion Senate bill is sponsored by Sens. Warren and Gillibrand. Strong Republican opposition is expected. 

Bank CEOs to Take the Heat Next Week?

Next week, the CEOs of the six largest U.S. banks will testify before the Senate Banking and House Financial Services Committees. Committee members from both parties will likely take an adversarial posture with the witnesses. Senate Banking Chair Sherrod Brown, a longtime foe of the big banks, has indicated he will criticize the CEOs for prioritizing stock buybacks, dividends, and executive compensation over the past year. Democrats will challenge the witnesses over diversity and inclusion in the financial sector and the banks’ record of assisting customers during the pandemic. Will the CEOs respond adversarially? Or will they signal a willingness to move in a collaborative direction with Congress?