BPInsights: February 27, 2021

Stories Driving the Week

Op-Ed: Streamline Bank Rules for Spotting Sanctions Violators

“Check the box” compliance practices are hampering bank efforts to enforce economic sanctions, BPI President and CEO Greg Baer wrote on Feb. 26 in an American Banker op-ed. Incoming Treasury Department officials need to reassume control over the sanctions regime and implement a risk-based framework that is more effective – one that focuses on smart ways of detecting evasion rather than fruitless name checks.

BPI published a white paper in December proposing steps policymakers should take to enable banks to target their sanctions screening more effectively. 

BPI Blog: Time for the Fed to Return to the Regular Rulebook

The Federal Reserve diverged in an extraordinary way from its post-crisis rulebook last summer by limiting certain banks’ dividend payments and suspending buybacks. Those restrictions have since been eased, but not lifted. The Fed has said it took those blanket actions because the U.S. economy’s outlook in the pandemic was extremely uncertain. But now that the future path of the economy looks clearer, as shown in economic data and in officials’ judgments, the Fed should return to its regular order, BPI Chief Economist Bill Nelson writes in a new blog post.
The market will soon see evidence of the Fed’s views on uncertainty when the FOMC releases its quarterly forecast on March 17. In December’s forecast, 16 of 17 participants said uncertainty was higher than normal. A material decline in that number would be a strong indication that the Fed no longer views uncertainty as extraordinarily elevated. Combined with other indicators of an improving outlook, that would suggest the Fed should stop its extraordinary limits on bank capital distributions.

At Capitol Hill Hearings, Powell Weighs in on CRA, Climate

Federal Reserve Chair Jay Powell expressed support for a joint Community Reinvestment Act rulemaking at two congressional hearings this week that covered a wide range of policy topics. He pointed to an opportunity for a harmonized rule among the Fed, FDIC and OCC, a topic on which he said the Fed has engaged. BPI called in a recent comment letter for the Fed to invite the other agencies to restart a joint rulemaking effort in order to create a common, consistent set of rules that would help banks invest in underserved areas.

Powell also told lawmakers that the ultimate responsibility for climate change policy lies with elected officials. While the Fed is weighing how climate change risk might affect the financial system, he said, the central bank is not, at its core, a climate policymaker. Powell also called for Congress to pass legislation to smooth the transition for contracts based on dollar LIBOR after the rate stops being published in June 2023.

Powell said the Fed had not decided whether to extend the exclusion of reserves and Treasuries from the supplementary leverage ratio, set to expire at the end of March. The expiration date comes as banks’ reserve balances are growing rapidly and expected to keep doing so for a while. The absence of that exemption could impair banks’ ability to buy and sell Treasuries or support other market players holding Treasuries as some would be expected to approach their leverage ratio buffers towards the end of 2021 absent mitigating actions.

Fed System Suffers Outage After ‘Human Error’

The Federal Reserve payment system was disrupted Feb. 24 for about four hours, affecting the FedACH and Fedwire Funds interbank transfer service, among other systems, according to Bloomberg. A Fed spokesperson said in The Wall Street Journal that the outage resulted from a “human error” involving an automated data center maintenance process that was inadvertently triggered during business hours. The outage raises questions about the resilience of payment infrastructure that enables the flow of millions of financial transactions. The incident comes after two system disruptions in 2019.

Quarles: Fed Using Stress Test Insights as It Weighs When to Lift Capital Distribution Curbs

Federal Reserve Vice Chair for Supervision Quarles gave a stress testing speech on Feb. 25.  On capital distributions, he indicated that the Federal Reserve is continuing “to use insights from the stress tests” as it considers when to “lift the limitations.”  He explained that other jurisdictions canceled or postponed their stress tests, while the Federal Reserve expanded its internally run analysis to meet the evolving conditions.  He also indicated that “as a result of the measures taken by the Board and the banks, U.S. bank capital levels actually increased last year, despite substantial increases in loan loss reserves.”  He said the credibility of stress testing “is built on a foundation of cutting-edge models” with forthcoming details in March about the details of the methodologies that underlie supervisory models.

He said: “the Fed must continue to innovate so that stress testing remains effective.”  He indicated, “[i]n the near term, we must strive to understand the implications of the COVID event on how we measure financial risk … [f]or example, it is difficult to tell whether a borrower who has continued to make loan payments during the COVID event is able to do so because of stimulus payments or because they have continued to earn income. Borrowers benefitting from temporary forbearance may or may not be able to resume payments once the forbearance ends.”  He also said: “Over the longer term, we must continue to sharpen our thinking around the interrelationships between bank risk and broader changes, such as advancing technologies and growth in non-bank finance.”  He indicated the agenda also includes initiatives that could reduce the volatility in the stress test results and mentioned feedback from banks via appeals of their stress capital buffers including “issues relating to interest rate hedges, loss-sharing agreements, and loans that use fair value option accounting that the Board directed staff to investigate and address promptly.”  He concluded “there is a need for more data and data-driven analysis broadly in supervision, which is related to the larger goal of enhanced transparency” and “[s]tress testing can serve as an example of what may be possible.”

Quarles also reflected on bank resilience amid the COVID shock in a Q&A at the same event, saying: “With the benefit of hindsight … we could have not imposed those distribution limitations and the banking system would have been fine.” However, he indicated the system was prepared for an extreme situation and that only extraordinary shocks — “an asteroid flaming in the sky” — should warrant moving away from the regular framework even in unprecedented situations.

Additional ILC Charters Sought

Thrivent Financial for Lutherans and San Francisco-based FinTech firm Brex have both applied for FDIC deposit insurance in connection with their applications for ILC charters in Utah, a hub for this charter.  Thrivent Financial for Lutherans was previously a savings & loan holding company subject to Federal Reserve supervision until it converted its savings association to a credit union in 2012.  Brex would plan to use the charter to expand its offerings of financial services, such as cash management, to small and midsize businesses. BPI has argued that the ILC loophole provides an avenue for firms to have the benefits of owning a bank, without being subject to consolidated regulation.  The ILC charter could serve as a conduit for tech giants like Amazon or Google to gain a banking footprint with lite-touch oversight, and Congress should pass legislation to subject ILCs to consolidated supervision by the Federal Reserve, similar to that which applies to banks and their holding companies.

Climate Capital Charges Could Hurt Lending, or Push It Into the Shadows

Adding capital requirements pegged to climate change risk could dampen the flow of capital into certain businesses, according to analysis in a Climate Risk Review article this week. For example, extra bank capital charges for climate change risks could push lending activities into less regulated swaths of finance. “It can be a very blunt tool in that regard,” BPI’s Lauren Anderson said in the article. “We’ve seen this in housing finance: mortgages have moved out of the banking sector to ‘shadow banks’ — and you can debate whether that’s desirable or not. You could have something very similar in the climate space if you penalize lending to certain companies. It’s not getting to the root issue of the problem you’re trying to solve, it’s just pushing it to someone else.”

In Case You Missed It

Bloomberg: JPMorgan Launches Investment Product for Black-Owned Banks

JPMorgan Chase & Co. developed an investment product for Black-owned banks — a special class of shares across its money market funds, according to a Bloomberg article. The bank has also made equity investments in four minority depository institutions as part of a pledge to close the U.S. racial wealth gap. The investment product will initially be distributed by the Harbor Bank of Maryland, Liberty Bank & Trust, M&F Bank and Unity National Bank. Several other BPI member banks, including Truist, U.S. Bank, Bank of America, Wells Fargo and Citigroup, have launched similar minority community investment initiatives.

Biden’s SEC, CFPB Picks Set for March 2 Confirmation Hearing

President Biden’s nominees to lead the Consumer Financial Protection Bureau and the Securities and Exchange Commission will answer questions from the Senate Banking Committee at a March 2 confirmation hearing. CFPB nominee Rohit Chopra has served as a Federal Trade Commission member, and SEC nominee Gary Gensler previously led the Commodity Futures Trading Commission.

Adeyemo Poised for Smooth Road to Confirmation After Hearing

Adewale “Wally” Adeyemo, President Biden’s nominee for Deputy Treasury Secretary, faces an easy path to confirmation after a Senate Finance Committee hearing this week, according to a POLITICO article. Adeyemo, who would be the first Black official in the role, would lead a review of sanctions policy at the department. He has a comprehensive list of tasks that include China economic negotiations, pandemic economic relief and staffing up key positions. Adeyemo has received widespread bipartisan support for his nomination.

Fed Outlines ‘Preconditions’ for Central Bank Digital Currency in Staff Report

The Federal Reserve laid out prerequisites for a central bank digital currency – an idea circulating among global central banks – in a staff report on Feb. 24 that shows the uphill climb still ahead for such technologies to take root. A central bank digital currency would require clear policy goals, broad stakeholder support, a strong legal framework, robust technology and market readiness, the report says. A solid legal structure would include statutory authority to issue a digital currency; AML and privacy safeguards; treatment of a CBDC as legal tender like cash; and clarity about the roles of the central bank in managing risk and allocating losses. The report comes as Treasury Secretary Janet Yellen expressed interest in digital-dollar research and as Fed chief Jay Powell highlighted it at a congressional hearing as a top priority for the central bank, albeit one with major policy and technical hurdles.  

M&T to Buy People’s United in $7.6B All-Stock Deal

M&T Bank has entered into an agreement to buy People’s United Financial in a $7.6 billion all-stock deal, according to M&T’s press release on Feb. 22. The combined bank’s network of branches will span the Northeast from Maine to Virginia, with about $200 billion in assets. M&T CEO René Jones will lead the combined company.

As FSB Head, Quarles Previews Money Market Fund Reforms to G20

FSB Chair Randal Quarles, also Vice Chair of Supervision at the Federal Reserve, offered a glimpse of money market reforms ahead in a letter to the G20 finance ministers and central bank leaders this week. Structural weaknesses among money market funds were on display last March amid the Treasury market turmoil. Quarles highlighted policy efforts to enhance money market fund resilience as a key priority this year. Policymakers could consider the appropriate structure of the sector and how it is affected by weaknesses in the short-term funding markets. The FSB will provide a report to the G20 in July with policy proposals on the topic, he said, followed by a final report in October.

Former BoE Chief Carney Joins Stripe Board Ahead of New Funding Round

Former Bank of England Gov. Mark Carney joined the board of FinTech firm Stripe on Feb. 21 ahead of its new funding round, according to the company. Stripe provides infrastructure that helps businesses accept digital payments. Carney, who serves as a UN climate envoy, will help guide the firm’s sustainable finance efforts.

Regions CEO Points to Future Nonbank Deals

Regions Financial is actively pursuing opportunities to buy additional nonbank companies, CEO John Turner said at a recent conference, according to American Banker. Regions acquired equipment-financing firm Ascentium Capital last year.

New York AG Cuts Off Trading, Reaches Settlement With Tether, Bitfinex

New York Attorney General Letitia James shut down trading on cryptocurrency platform Bitfinex and stablecoin Tether after they allegedly covered up massive losses and lied about the stablecoin’s backing, according to a press release on Feb. 23 from James’ office. Stablecoins are digital assets sometimes pegged to “fiat” currency and designed to maintain stable value. The firms must pay $18.5 million in penalties to New York state.

BPI/Columbia Conference Concludes with Final Panel on COVID, Bank Digitalization

On Feb. 26, Columbia University and BPI hosted the last panel of the 2021 Annual Columbia SIPA/BPI Bank Regulation Research Conference. The session started with a keynote speech from Harit Talwar, Chairman of Consumer Business at Goldman Sachs. His speech highlighted the importance of keeping the customer at the center of decision-making through simple and transparent delivery of value-creating products.  This requires a combination of technology, data, artificial intelligence, risk management and marketing, but also a strong balance sheet.  Additionally, he noted the importance of a level regulatory and supervisory playing field to ensure fair competition and compliance best practice.  He also expressed the view that the trend towards digital banking that had already been underway has accelerated as a result of COVID-19, later reiterated by the panelists.

The keynote speech was followed by a panel discussion on COVID-19 and digitalization of banking moderated by Julapa Jagtiani from the Federal Reserve Bank of Philadelphia. The conversation began with a discussion of how COVID-19 impacted the banking sector. Amy Brady, CIO of KeyBank, highlighted the ways in which banks quickly adapted to the suddenly changed banking environment both in terms of their own operations and with respect to dealing with clients. KeyBank, for example, moved some 100,000 employees to remote workers in seven days and processed 45,000 PPP applications reaching $8 billion in loans within two weeks through automatization and digitalization.

Professor Xavier Vives from IESE then discussed the ongoing transformation taking place in the banking sector. Banks face business challenges arising from the low interest rate and deleveraging environment; increased regulation and accelerating digitalization. Disruption by technology firms is taking place from FinTech companies with new data capabilities and strong net cash positions and without the burden of legacy systems.  Regulators are having to balance sometimes competing concerns regarding stability, efficiency and data privacy.

Vesa Pursiainen from the University of St. Gallen presented his research on how differences in bank digital capabilities determined their reaction to COVID-19. Banks ranked higher on the IT capability index he utilized saw better performance outcomes, including reduction in branch visits, increased website traffic, quicker customer response times and greater PPP loan volumes and deposit growth. Furthermore, SMEs in areas hit hardest by COVID-19 were more likely to switch to banks with better IT metrics.

Lastly, Julie Andersen Hill at the University of Alabama Law School provided a legal overview and outlook. She expects that banks will see increased supervision related to technology, including operational risk, contingency planning, scrutiny of third-party vendors and customer protection and fair lending regulation.  Professor Hill also expects increased regulatory scrutiny of FinTechs, although banks remain the party primarily responsible for compliance in the context of partnering with a FinTech firm, and she sees an increasing role for “reg tech.”

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The views expressed do not necessarily reflect those of the Bank Policy Institute’s member banks, and are not intended to be, and should not be construed as, legal advice of any kind.