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What We're Reading in Financial Regulatory Reform, October 20

We hope you enjoy the following selection of readings from the financial regulatory world. As always, the views expressed in these articles do not necessarily represent the views of the initiative, its co-chairs, task force members or the Bipartisan Policy Center (BPC).

Upcoming: you will soon have the opportunity to read our latest paper, which will be released at our forthcoming event, “The Big Bank Theory: Breaking Down the Break-Up Argument.” The event will be held on October 28, 2014 from 10:00AM-11:30AM at BPC (register here). We hope you will come and hear from our paper co-authors: Martin Neil Baily, Douglas Elliott, and Phillip Swagel who will be joined by former Senator Ted Kaufman, BPC Task Force Member Randall Guynn, Cato Institute Scholar Arnold Kling, and the Senior Vice President of Greg McBride. The event will be moderated by Neil Irwin, Senior Economic Correspondent for The New York Times.

BPC’s Financial Regulatory Reform Initiative highlights news articles, papers and other important work which illuminate current and new thinking within financial regulation. We circulate these articles to provide a full view of cutting edge ideas, reactions and positions.

Compiled by Aaron Klein, Peter Ryan and Justin Schardin

Major Banks Agree to Sign ISDA Resolution Stay Protocol

By the International Swaps and Derivatives Association (ISDA)

“18 major global banks (G-18) have agreed to sign a new ISDA Resolution Stay Protocol, which has been developed in coordination with the Financial Stability Board to support cross-border resolution and reduce systemic risk. This represents a major step in strengthening systemic stability and reducing the risk that banks are considered ‘too big to fail’. The Protocol will impose a stay on cross-default and early termination rights within standard ISDA derivatives contracts between G-18 firms in the event one of them is subject to resolution action in its jurisdiction. The stay is intended to give regulators time to facilitate an orderly resolution of a troubled bank.” Read the backgrounder on the Protocol here.

Financial Regulatory Reform: Looking Forward

By BlackRock Inc.

“Over the past two years, questions have been raised regarding the potential for risks related to asset management.  As we have previously discussed, a closer look at asset management highlights the importance of focusing on investment products and industry practices rather than on individual firms and individual funds.  We have identified a number of topics that warrant deeper analysis both to develop a better understanding of asset management and to identify products and practices where changes in regulation might be beneficial.” Read the report here.

“Rethinking the Unthinkable: Bankruptcy for Large Financial Institutions.” Remarks at the National Conference of Bankruptcy Judges Annual Meeting

By Jeffrey M. Lacker, President, Federal Reserve Bank of Richmond

“In my view, living wills offer us the only realistic path to dismantling those expectations and ending ‘too big to fail.’ While they have not received as much attention as other regulatory and legislative responses to the crisis, they may be the most critical, and I applaud the hard work that is being done to make them credible. It will be a long journey, and we should expect resistance to the changes that will be required. But the costliness of those changes is a measure of the subsidies inherent in the bailout-dependent too-big-to-fail regime, a regime that is unworkable, unsustainable and unfair. The health and stability of our financial system depends on rethinking the once-unthinkable possibility of bankruptcy for large financial firms.” Read the speech here.

Letter to Federal Reserve Chair Janet Yellen Regarding the Federal Reserve’s Overnight Reverse Repurchase Facility [RRP]

By Representatives Patrick McHenry (R-NC) and Scott Garrett (R-NJ)

“As you know, RRP has been utilized since last September as a way to manage short-term interest rates. Use of the facility reached a high-water mark of $242 billion at the end of the first quarter of this year. While we encourage the Federal Reserve … to consider as many options as possible to reverse its course of excessive monetary policy accommodation, we have considerable concern that use of RRP could have a significant negative impact on the U.S. economy.” Read the letter here.

“Strengthening Oversight and Regulation of Shadow Banking: Regulatory Framework for Haircuts on Non-Centrally Cleared Securities Financing Transactions”

By the Financial Stability Board (FSB)

“The objective of the FSB’s work is to ensure that shadow banking is subject to appropriate oversight and regulation to address bank-like risks to financial stability emerging outside the regular banking system while not inhibiting sustainable non-bank financing models that do not pose such risks. The approach is designed to be proportionate to financial stability risks, focusing on those activities that are material to the system, using as a starting point those that were a source of problems during the crisis. It also provides a process for monitoring the shadow banking system so that any rapidly growing new activities that pose bank-like risks can be identified early and, where needed, those risks addressed.” Read the framework document here.

“Key Attributes of Effective Resolution Regimes for Financial Institutions”

By the Financial Stability Board (FSB)

“The objective of an effective resolution regime is to make feasible the resolution of financial institutions without severe systemic disruption and without exposing taxpayers to loss, while protecting vital economic functions through mechanisms which make it possible for shareholders and unsecured and uninsured creditors to absorb losses in a manner that respects the hierarchy of claims in liquidation. … In order to facilitate the coordinated resolution of firms active in multiple countries, jurisdictions should seek convergence of their resolution regimes through the legislative changes needed to incorporate the tools and powers set out in these Key Attributes into their national regimes.” Read the document here.

Remarks to the Securities Enforcement Forum 2014

By Michael S. Piwowar, Commissioner, Securities and Exchange Commission

“One particular problem has been the vastly increasing complexity of the laws and rules that govern the securities industry. … It is under these circumstances, in which there is a high level of complexity and at times significant ambiguity, that a ‘broken windows’ approach to enforcement may not achieve the desired result. If every rule is a priority, then no rule is a priority.  If you create an environment in which regulatory compliance is the most important objective for market participants, then we will have lost sight of the underlying purpose for having regulation in the first place.  Rather than enabling vital and important economic activity, we will have unnecessarily shackled it – and our country will be far worse off from the absence of such activity.” Read the speech here.

2009 Report on Systemic Risk and Bank Supervision at the Federal Reserve Bank of New York [FRBNY]

By David Beim, Professor of Professional Practice, Columbia Business School, and Christopher McCurdy, Senior Vice President, Federal Reserve Bank of New York

“Our review of lessons learned from the crisis reveals a culture that is too risk-averse to respond quickly and flexibly to new challenges. Officers are intensely deferential to their superiors, similar to an army. Knowledge is too often hoarded in silos. Business organizations including banks have moved away from structured hierarchies in favor of more modern, flexible forms, and FRBNY needs to adopt some of these attributes to be effective in grasping and acting on systemic issues.” Read the report here.

The Redistributive Effects of Financial Deregulation: Wall Street versus Main Street

Bank for International Settlements working paper by Anton Korinek, John Hopkins University and National Bureau of Economic Research, and Jonathan Kreamer, University of Maryland

“Financial regulation is often framed as a question of economic efficiency. This paper, by contrast, puts the distributive implications of financial regulation at center stage. We develop a formal model in which the financial sector benefits from financial risk-taking by earning greater expected returns. However, risk-taking also increases the incidence of large losses that lead to credit crunches and impose negative externalities on the real economy. … A regulator has to trade off efficiency in the financial sector, which is aided by deregulation, against efficiency in the real economy, which is aided by tighter regulation and a more stable supply of credit. We also show that financial innovation, asymmetric compensation schemes, concentration in the banking system, and bailout expectations enable or encourage greater risk-taking and allocate greater surplus to Wall Street at the expense of Main Street.” Read the paper here.

“How America Is Made for Trade”

Report Commissioned for “HSBC Made for Trade” by Matthew J. Slaughter, Associate Dean for Faculty and Signal Companies’ Professor of Management, Tuck School of Business, Dartmouth College

“America today continues to confront a competitiveness challenge of too few quality jobs and too little income growth. The good news is there is a future in which America can create millions of good jobs connected to the world via international trade and investment. Doing so will require US policies that are based on a sound understanding of how American companies succeed in today’s dynamic global economy—and of the critical role that trade finance plays in that success.” Read the report here.

What to Watch for: The FSOC’s October 6 Meeting

By Aaron Klein and Justin Schardin

“The Financial Stability Oversight Council (FSOC) is set to meet this coming Monday, October 6. The Council’s agenda includes a continuation of its work in three important areas: designating non-bank firms as systemically important financial institutions (SIFIs), asset management, and improving financial data quality and removing data gaps. With news Friday of MetLife’s request for a hearing to contest its proposed designation as a SIFI, the meeting takes on heightened interest. What we’ll be watching for: Next steps for MetLife’s hearing, how the FSOC responds to recent criticism of the transparency and targeting of its designation process, and how much progress has been made by the Office of Financial Research (OFR) on the underappreciated data front.” Read the blog post here.

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