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Five Financial Reform Priorities for Congress, No Matter Who Wins on Tuesday

By Aaron Klein, Laura Hall

Thursday, October 30, 2014

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With midterm elections looming, Washington is paying keen attention to a few hotly-contested elections that will likely determine whether the Senate will flip from Democratic to Republican control. Regardless of which party ends up in charge, the Senate ought to focus on a few key financial regulation issues.

The Senate Banking Committee has a long history of bipartisan collaboration and compromise. With the strain of the financial crisis fading, we at the Bipartisan Policy Center’s (BPC) Financial Regulatory Reform Initiative look forward to continued growth in bipartisanship at the Committee. As the new Congress seeks ways to improve financial regulation, we believe there are more bipartisan areas of agreement than most suspect. Below are five financial regulatory reform issues that we believe are ripe for the Senate Banking Committee to tackle next year.

1. Clarify Dodd-Frank to Avoid One-Size-Fits-All Capital Rules.

Congress is moving through important legislation that would tweak the Dodd-Frank Act to grant the Federal Reserve more flexibility to tailor capital requirements for insurance companies deemed systemically important financial institutions (SIFIs). Under the current rules, insurance companies face the possibility of being shoehorned into capital rules designed for banks that have very different business models. The original Dodd-Frank legislation made clear in several places that in developing prudential standards for nonbank SIFIs, the Federal Reserve may and shall take into account the ways nonbank SIFIs differ from banks. Indeed, Federal Reserve Chair Janet Yellen and Governor Daniel Tarullo agree that tailoring is prudent and that the Federal Reserve will tailor to the extent that it can. However, Section 171 of Dodd-Frank (the “Collins Amendment,” sponsored by Sen. Susan Collins (R-ME), has been interpreted by the Federal Reserve as tying its hands with regard to setting capital leverage standards for nonbank SIFIs.

Senator Collins herself has indicated that is not consistent with her intention to allow tailoring and she supports this change. Indeed, Sen. Collins introduced the Senate version of the bill (S. 2270) with Sens. Sherrod Brown (D-OH), and Mike Johanns (R-NE), and it and was passed by unanimous consent in June. The companion House legislation (H.R. 4510) has 204 co-sponsors (116 Republicans and 88 Democrats). BPC supports this legislation, testifying in support of it earlier this year. If legislation to clarify the ability of the Federal Reserve to tailor does not pass later this year, then it should be a bipartisan priority for the Senate Banking Committee’s 2015 agenda. Further, BPC believes that the Fed should set a “low bar” for tailoring capital rules and should actively tailor rules where appropriate. Congress should continue to monitor the Fed to make sure that it is following the intent of this legislation and of Dodd-Frank.

2. Give Banking Regulators More Flexibility To Set Threshold For Enhanced “SIFI Supervision” Using Criteria Beyond Size.

The Dodd-Frank Act subjected all bank holding companies with more than $50 billion in assets to heightened prudential standards beyond those which smaller banks face. BPC believes the current threshold is too low, which forces regulatory agencies to shift scarce resources away from a focus on the most systemically important financial institutions. Congress should therefore raise the current threshold and give regulators more flexibility over whether to subject institutions that fall both above and below that threshold to enhanced “SIFI supervision.”

A number of top financial regulators, including Federal Reserve Governor Daniel K. Tarullo and Comptroller of the Currency Thomas J. Curry, have publicly acknowledged that this bar was set too low and is too much of a blunt instrument because the size of a bank’s balance sheet is just one factor in determining the risk it poses to the broader financial system. Lawmakers have similarly taken notice. Earlier this year, Representative Blaine Luetkemeyer (R-MO) introduced the “Systemic Risk Designation Improvement Act” (H.R. 4060) to ensure those institutions facing enhanced oversight are not only large in size but globally interconnected and complex. And at a House Financial Services hearing in July, both Democratic and Republican lawmakers expressed concern about whether the $50 billion threshold is appropriate, prompting former House Financial Services Chairman Barney Frank (D-MA) to say that he believes the threshold should be raised.

3. Establish an Independent Inspector General for the Consumer Financial Protection Bureau (CFPB).

Supporters of the CFPB have long said that it should be treated like other independent financial regulators and agencies. Those concerned about the Bureau’s actions have called for stronger oversight and accountability. Both sides should agree that despite the CFPB’s placement within the Federal Reserve System, it effectively acts and functions as an independent agency. Therefore, like other independent financial regulator, it should be have its own independent inspector general with full investigative and reporting powers.

Legislation to achieve this goal has gotten traction. The bipartisan “CFPB-IG Act of 2013” (H.R. 3770), introduced by Rep. Steve Stivers (R-OH) and Rep. Tim Walz (D-MN) passed by a 39 to 20 margin in the House Financial Services Committee, while Sen. Rob Portman (R-OH) introduced a similar version of the bill (S. 1310) in the Senate Banking Committee.

4. Streamline the Process for Resolving Too-Big-To-Fail Banks.

The Dodd-Frank Act created several mechanisms to enable regulators to more easily resolve large, complex financial institutions. One was establishing so-called “living wills,” which require each systemically important bank to draw up a blueprint for its demise through the bankruptcy process so that regulators and the firm can make informed decisions in the event of serious financial distress. However, the overall usefulness of these documents has fallen far short of expectations. One reason is that the living wills do not spell out the steps that might be used in the event a firm’s regulators exercise Dodd-Frank’s new failure resolution mechanism, known as Orderly Liquidation Authority, or OLA. Legislation should require living wills to be aligned with the failure resolution tools created by the OLA resolution regime to ensure the law comports with current practice. The current system is somewhat like providing a hammer, a screwdriver, a nail, and a screw and then asking for a plan to insert the nail and screw using only the hammer.

5. Hold the Independent Financial Regulators Accountable.

Financial regulators are appropriately granted legal independence precisely because they sometimes have to make tough and politically unpopular decisions. Yet, this independence needs to be balanced with public accountability. Strong congressional oversight – through public hearings, private meetings, and public discourse – is the best way to achieve this important goal. From day one of his tenure, Senate Banking Committee Chairman Tim Johnson (D-SD) made continuing oversight over Wall Street reform implementation a top priority for the committee. Regardless of who controls the Senate, we expect the committee to continue pushing regulators to work together more efficiently and effectively, better tailor financial regulations to address the unique needs of both banks and non-banks, and robustly monitor the financial system for signs of returns to irresponsible lending or business conduct.

NOTE: Aaron Klein, the director of the Financial Regulatory Reform Initiative, is the former chief economist of the Senate Banking Committee and regularly monitors financial policy debates in Congress. He can be reached at 202-218-6786 or at