BPInsights: Sept 28, 2024

How Basel Negotiations Got Stuck

The banking agencies' negotiations on the Basel reproposal have reached a stalemate, according to a report from Capitol Account this week. "The impasse is particularly puzzling given that two weeks ago, Fed Vice Chair for Supervision Michael Barr gave a high-profile speech strongly suggesting (if not quite stating) that the opposite was true: After months of silence, the Fed, FDIC and OCC appeared to have 'jointly' agreed on a path forward for the capital rule," the article stated.

• Capitol Hill pushback: House lawmakers expressed dismay at the logjam at a regulatory-themed Financial Services subcommittee hearing this week. "The result has been lingering uncertainty about the future rules of the road for financial institutions and consumers of financial services," Rep. Andy Barr (R-KY) said.
• Background: The original Basel proposal sparked significant concerns both within the banking agencies and across the business and consumer community. Many commenters and members of Congress have urged the agencies to fully repropose the rule and start from scratch. The reproposal seemed close to emerging when it garnered opposition from three out of five members of the FDIC, according to media reports.
• The most uncertain variable: The FDIC disagreements appear to be the defining variable in the process. "Republicans Jonathan McKernan and Travis Hill and Democrat Rohit Chopra are unwilling to support the changes - despite what sources say has been intensified effort in recent days to persuade them," Capitol Account reported.
• Knock-on effects: A delay in the Basel rule could have a ripple effect on other regulations, such as the long-term debt proposal, which policymakers have indicated they will only address after Basel is resolved.
• What's possible: It is possible and precedented for the Federal Reserve to move on its own to repropose Basel.

Five Key Things

1. House Lawmakers Take Aim at 'Politicized' Banking Rules

The House Financial Services Committee's Subcommittee on Financial Institutions and Monetary Policy discussed the harmful consequences of certain banking regulations at a hearing this week. Witnesses at the hearing were Jonathan Gould, a partner at Jones Day and former OCC official; Kenneth Bentsen, president and CEO of SIFMA; and Marc Jarsulic, chief economist at the Center for American Progress. The Basel Endgame proposal was a central theme of the hearing, but other regulations such as the long-term debt proposal also garnered criticism. Here are a few key highlights.

• State of play: Lawmakers expressed consternation about the uncertainty and process failures surrounding Basel Endgame. "The future of the Endgame proposal is unclear, and administrative procedures followed by the agencies continue to be clumsy at best and politicized at worst," Rep. Andy Barr (R-KY), the subcommittee's chairman, said at the hearing. The changes previewed by the Fed Vice Chair for Supervision's recent speech are encouraging, but "Barr's speech suggests that considerable work still remains, particularly to the market risk component of the Endgame proposal," Rep. Barr indicated.
• 'Partisan horse trading': Rep. Barr also pointed out the discrepancy between Vice Chair Michael Barr's remarks that the Basel reproposal is a joint effort between the banking agencies, and regulators' lack of movement on it. "Instead of seeing progress after Mr. Barr's speech, there have been numerous reports of partisan horse trading among disgraced FDIC Chairman Gruenberg, [FDIC board member and] CFPB Director Chopra and others," Rep. Barr said. "Partisanship at regulatory agencies" and procedural failures weigh on American small businesses and families, Barr said.
• Regulatory 'onslaught': Rep. Barr and colleagues decried the "onslaught" of regulations from the banking agencies, including "significant proposals" on long-term debt, brokered deposits and M&A. Such a deluge "amplifies uncertainty" and threatens the independent posture of regulatory agencies, according to Rep. Barr.
• More details needed: Rep. Bill Foster (D-IL), ranking member of the subcommittee, said he is "encouraged to hear" that Michael Barr mentioned in his preview speech many of the issues that lawmakers raised, including mortgages and investments in green energy. However, he described the House hearing as "premature" because "the text of the proposal has not been seen by any member of this committee or the public." He urged regulators to avoid unnecessary delays.
• Capital markets impact: High market risk capital requirements threaten to raise costs for capital markets, an engine for U.S. businesses to grow, Kenneth Bentsen of SIFMA emphasized at the hearing.
• Tailoring in danger: Rep. Barr cautioned that the undoing of regulatory tailoring - rules that are tiered based on banks' size and risk profile - is "circumventing Congressional intent." He referred to Acting Comptroller Michael Hsu's recent suggestion to designate domestic systemically important banks, or DSIBs, as an example of these efforts.

2. Fed's Bowman: Regulators' Lack of Business Experience is a Blind Spot

Federal banking regulators without experience in the business world may not have clear insight into the real-world implications of their rules, Federal Reserve Governor Michelle Bowman said this week at a Kentucky Bankers' Association event. "They don't understand what those implications are, both intended and unintended," said Bowman, a former community banker. Bowman cited the example of recent M&A policy changes finalized by the OCC and FDIC. The Fed has not formally changed its M&A approach, but it has amended its application form to require more estimates about the projected impacts of a proposed deal, according to Bowman. Bank mergers are often the best outcome for smaller banks and the communities they serve, Bowman said, noting the increased costs of delayed merger reviews.

• Lack of transparency: An underappreciated aspect of bank-fintech partnerships is banks' lack of visibility into supervisory issues with fintech companies, Bowman said. Banks may not know that their fintech partner is on a supervisory watchlist; agencies cannot warn banks about such problems because of prohibitions on sharing confidential supervisory information. "We don't have guardrails for banks to work with validated, confirmed partners that supervisors think are legit," Bowman said.
• Liquidity: Bowman also suggested that some liquidity changes under consideration could deny banks the ability to make their own choices about funding sources. Such potential changes include those that may shift banks away from using the Federal Home Loan banks as a funding source.
• Legal shift: The Supreme Court's overturning of Chevron deference has introduced a heightened risk of litigation against regulators, which serves as a check on agencies' rulemaking, Bowman suggested. "The risk of litigation is already chilling the way agencies are thinking about new regulation," she said. "In my mind, that's an excellent influence on our regulatory process and will help moving forward."

3. Barr Previews Potential Liquidity Changes Ahead

Federal Reserve Vice Chair for Supervision Michael Barr this week outlined changes to liquidity regulations that the Fed is "exploring." In a speech Thursday, Barr said the Fed may consider a requirement for larger banks to maintain a minimum amount of readily available liquidity with a pool of reserves and pre-positioned collateral at the discount window, based on a fraction of their uninsured deposits. He described such a requirement as a "complement to existing liquidity regulations" such as the internal liquidity stress tests and the liquidity coverage ratio. "Incorporating the discount window into a readiness requirement would also reemphasize that supervisors and examiners view use of the discount window as appropriate under both normal and stressed market conditions," Barr said.

• Limit on held-to-maturity: In the banking turmoil of spring 2023, banks faced constraints converting held-to-maturity assets with large unrealized losses to cash, Barr said. "To address these gaps, we are considering a partial limit on the extent of reliance on HTM assets in larger banks' liquidity buffers, such as those held under the LCR and ILST requirements," Barr said. "These adjustments would address the known challenges of banks being able to use these assets in stress conditions."
• Deposit treatment: The Fed is also reviewing the treatment of certain types of deposits in the liquidity framework, he said. This reconsideration may include recalibrating deposit outflow assumptions for certain types of depositors.
• Scope of liquidity regulation: The Fed is also considering "revisiting the scope of application of our current liquidity framework for large banks." It remains unclear what form this or other changes might take as discussions move forward.
• Reiterating the answer: Barr also emphasized a point that the Fed clarified about the discount window in August. "We had been hearing that some were confused about how banks could incorporate ready access to the discount window and the SRF into their contingency funding plans and internal liquidity stress tests," Barr said. "Supervisors have a role in assessing the viability of large banks' plans to meet stressed outflows in their stress scenarios, and we have been asked whether the discount window, the SRF, and also Federal Home Loan Bank advances can play a role in those scenarios. The answer to this question is 'yes.'"
• Potential pitfalls: As they explore these issues, the Fed should keep in mind 10 pitfalls to avoid.

4. Lawmakers Object at Hearing to SEC's Rulemaking Process, Volume

SEC Chair Gary Gensler encountered a wave of criticism from House lawmakers at an SEC oversight hearing this week. Gensler was meant to testify at a Senate Banking Committee hearing as well, but it was postponed after Chair Sherrod Brown (D-OH) cited scheduling issues. House Republicans expressed objections to a range of actions from Gensler, from digital asset custody to climate disclosures. Gensler testified at the hearing alongside SEC Commissioners Hester Peirce, Caroline Crenshaw, Mark Uyeda and Jaime Lizarraga. Here are a few key excerpts.

• 'Rogue agency': House Financial Services Committee Chair Patrick McHenry (R-NC) kicked off the hearing with a critique of Gensler's approach to law and process. "Under Chair Gensler, the SEC has become a rogue agency," McHenry said. "It routinely exploits its authority to the detriment of our capital markets, innovation, and the American people. …A wide array of federal judges, appointed by presidents from both parties, have noted the lawless nature of Chair Gensler's tenure by overturning rulemakings and enforcement actions."
• Rushing the rules: Rep. Dan Meuser (R-PA) said that "many believe the SEC has rushed through the sweeping rule changes without properly engaging with industry, other regulators or the public." He pointed to the custody rule - which has been paused and which the SEC plans to repropose in light of significant concerns - as an example of a policy that was rushed and had to be scrapped due to public backlash.
• Capital markets: Rep. Ann Wagner (R-MO), chair of the subcommittee on capital markets, said "the SEC has effectively carved the public stakeholders out of the rulemaking process" with notably shorter comment periods for its rules than under the previous chair.
• Need for precision: Commissioner Hester Peirce discussed the need to be precise about how to define cryptocurrencies. "I think what's happening is that we're trying to be ambiguous because the legal precision carries with it real implications and this is why people have been coming to us and saying we need clarity," Peirce said. A key sticking point is whether crypto assets are considered securities, and therefore under the SEC's jurisdiction.
• Executive compensation: The SEC is waiting on the Federal Reserve in order to jointly propose an executive compensation rule with the other financial regulators under Section 956 of the Dodd-Frank Act, Gensler said. "We will not slow the Federal Reserve down," he said at the hearing. "We will be ready whenever they are ready."
• SAB 121: Ahead of the hearing, a group of House Republicans demanded details on communications between the regulatory agencies on the SAB 121 digital assets custody policy. Read more about the letter in a separate summary below.

DOJ Accuses Visa of Antitrust Violations

The U.S. Department of Justice this week filed an antitrust lawsuit against Visa, accusing the company of maintaining a monopoly in debit card networks by "using its dominance to thwart the growth of its existing competitors and prevent others from developing new and innovative alternatives." DOJ alleged that Visa reinforces its dominance in the debit ecosystem by imposing "a web of exclusionary agreements on merchants and banks." Such agreements penalize customers who route transactions to a different debit network or alternative payment system, and therefore enable Visa to insulate itself from competition, according to DOJ.

• Regulatory impetus: The lawsuit asserts that Visa began using anti-competitive tactics in the wake of the Durbin Amendment, a provision of the Dodd-Frank Act that caps interchange fees on debit cards and requires banks to enable at least two debit networks on every card. The complaint also points to concerns about fintech competition.
• Long history in court: Visa has faced lawsuits from retailers dating back several years over allegations of high fees.

In Case You Missed It

A Deeper Dive Into Bank M&A Policy

In a new Banking with Interest podcast episode, Federal Financial Analytics Managing Partner Karen Petrou delved into more details on a recent study illustrating the "perverse consequences" of new restrictions on bank M&A.

• Fundamental disconnect: "These merger policies not only seem to forget, but in several cases … actually disagree with the proposition that banks have to make money," Petrou said in the interview. The premise that banks must serve a public mission, even if it does not result in profitable operations, is divorced from reality, Petrou said.
• Scale is critical: In the banking ecosystem, "economies of scope and scale are critical," Petrou said. The FDIC's M&A policy could ultimately hurt smaller banks.

The Crypto Ledger

Here's what's new in crypto.

• SAB 121: Ahead of an SEC oversight hearing this week, a group of House Republicans demanded that regulators provide lawmakers with interagency communications surrounding the agency's Staff Accounting Bulletin 121. The policy upended bank custody rules for digital assets. The lawmakers are seeking more insight into discussions on SAB 121 between the financial regulatory agencies "to assess whether the SEC undermined banking regulators with this siloed regulatory action, which would risk introducing unnecessary uncertainty and instability into our financial system."
• Ellison sentenced: Caroline Ellison, a key lieutenant of Sam Bankman-Fried and star witness in the case against him, was sentenced this week to two years in prison for her role in the FTX fraud. Her penalty pales in comparison to the 25-year sentence handed down to Bankman-Fried - a reflection of her cooperation with authorities.
• Division of labor: Federal crypto legislation is welcome, but states should retain their roles in overseeing digital assets, New York state financial regulator Adrienne Harris said recently at a digital asset conference. "We are maybe more eager than anyone to have a federal partner and to see federal legislation and regulation," said Harris, who is superintendent of the New York Department of Financial Services. "I think it's really important that legislation gets passed, regulations get written, but it is still important that there is a role for the states."
• PayPal expands crypto offerings: PayPal will now allow merchants to buy, hold and sell cryptocurrency from their business accounts, according to Bloomberg.

Wells Fargo Awards $1.2 Million to Support Repairs, Accessibility Upgrades for Seniors' Homes

Wells Fargo recently announced a $1.2 million donation to housing organization Rebuilding Together, a nonprofit dedicated to repairing homes and revitalizing communities. The donation will support housing repairs and upgrades in the Miami community to enable local senior citizens to stay in their homes for longer.