BPInsights: January 17, 2020

BPInsights: January 17, 2020

Top of the Agenda

BPI Offers Recommendations on How to Revise Supervisory Rating System

The Bank Policy Institute (BPI) submitted a comment letter to the Federal Reserve and Federal Deposit Insurance Corporation in response to their request for information seeking public input on a fundamental aspect of how the federal banking agencies supervise banks, the Uniform Financial Institution Rating System (UFIRS), commonly known as CAMELS. UFIRS was adopted in 1979, and though the regulatory framework for banks has fundamentally changed, CAMELS has changed very little.

“[T]he consequences of poor CAMELS ratings have become significant, severe and legally binding…there have been innumerable changes to how banks are regulated that make…[CAMELS] outdated and substandard as a measure of financial condition,” wrote BPI President and CEO Greg Baer in BPI’s letter.

Later today, Federal Reserve Vice Chair for Supervision Randal Quarles is scheduled to deliver a speech on bank supervision at the American Bar Association Banking Law Committee’s annual meeting in Washington, D.C. His remarks should be available here at approximately 12:45 pm EST.

5 Stories Driving the Week

1. Visa Acquisition of Plaid Could Help Address Banks’ Security Concerns
On January 13, Visa announced a $5.3 billion agreement to acquire Plaid Inc., a fintech company that specializes in developing the technical infrastructure that enables over 11,000 financial service companies, including PayPal, Square and Robinhood, to connect to a consumer’s financial account to offer their services. Quartz reported that the acquisition by Visa, the largest U.S. card network, could help to address concerns banks have raised related to security and the ability of fintech companies to access and retain customer account data. Aggregation services often utilize a practice known as screen scraping to acquire data, which requires the consumer to provide their username and password—and potentially other sensitive information—that can expose the consumer to an increased risk of fraud and identify theft. There also exists uncertainty about how these third parties use sensitive customer data. As the public is increasingly aware of the use and protection of their information, data aggregation has become a focus of policymakers.


2. House Holds Subcommittee Hearing on Community Reinvestment Act Reform
This week, the House Financial Services Subcommittee on Consumer Protection and Financial Institutions held a hearing to examine the implications of the proposed reforms to the Community Reinvestment Act regulations. Members on both sides of the aisle agreed that updates to the more than 40year-old framework were warranted given changes in the banking business and technology, but they disagreed about the effect of the OCC and FDIC’s joint Notice of Proposed Rulemaking (NPR). Many democrats asserted that more time was needed to solicit public comment, arguing that the proposal was a dramatic departure from current CRA evaluation practices, which could potentially lead to unintended consequences. They also expressed concerns that the Federal Reserve Board was not currently supportive of the NPR, and they suggested the need for possible legislation if numerous frameworks result from interagency disagreement. Most republicans asserted that the CRA reform process has been appropriately conducted, with robust stakeholder input. They also stressed the importance of acting to ensure more transparency around what counts for CRA credit, which could lead to more community investment. Comptroller of the Currency Otting is slated to testify on the CRA reform proposal before the full House Financial Services Committee on January 29, ahead of the close of the proposal’s comment period on March 9.

3. Members of Congress Criticize FASB Chairman Over CECL Accounting Standard
On Wednesday, the House Financial Services Subcommittee on Investor Protection, Entrepreneurship and Capital Markets held an oversight hearing with the chairmen of the Financial Accounting Standards Board (FASB) and Public Company Accounting Oversight Board.  FASB’s current expected credit loss (CECL) accounting standard was a hotly discussed issue.  “The chief U.S. accounting rulemaker faced fierce criticism of new-loan loss rules in a rare hearing before Congress. Members of a House Financial Services subcommittee panned the current expected credit losses (CECL) accounting standard, meant to be the Financial Accounting Standards Board’s signature response to the 2008 financial crisis,” Bloomberg reported.  In 2018, BPI published research that showed if CECL were in place during the 2007-2009 financial crisis it would have been highly procyclical, amplifying the contraction in bank lending and the severity of the crisis. Subsequently, BPI’s chief economist Bill Nelson testified before the House Financial Services Committee to discuss the research, and BPI asked the banking agencies to implement a capital neutral approach for CECL for purposes of all capital requirements (including stress capital requirements).

4. California and New York Seek to Exercise Increased Authority to Replicate the CFPB’s Role 
California Governor Gavin Newsom announced plans for a $10.2 million expansion to the state’s budget to establish a dedicated state consumer financial protection bureau, in a move applauded by former CFPB director Richard Cordray. As reported in the American Banker, the move would rename the Department of Business Oversight to the “Department of Financial Protection and Innovation and expand the department’s role to implement consumer protection regulations similar to those currently enforced by the CFPB. California’s state legislature has until June 15 to pass the governor’s proposed budget. California joins New York as part of a small collection of states looking to exercise state regulatory authority over consumer protection laws, which to date has included increased state authority over debt collectors and considering possible expansions of their unfair, deceptive or abusive acts and practices (UDAAP) authority, which could raise concerns of fragmented regulatory requirements and legal uncertainty. Furthermore, on January 14, the New York Department of Financial Services—which houses the state’s consumer protection divisionannounced the hiring of former senior CFPB official and chief of staff to Cordray, Leandra English, as a special policy advisor.

5. Federal Reserve Publishes FAQ Documents Related to Finalized Tailoring Rules
On January 14, the Federal Reserve Board published four FAQs in relation to the recently finalized tailoring rules. The FAQs prescribe the process for Category III and IV banking organizations to opt out of the Accumulated Other Comprehensive Income requirement during Q1 of 2020. Category IV banking organizations with average weighted short-term wholesale funding below $50 billion are not required to comply with Liquidity Coverage Ratio (LCR) disclosure requirements as of December 31, 2019. Further, Category IV banking organizations will be required to conduct internal liquidity stress tests at least quarterly. Additionally, FBOs with less than $100B average combined U.S. assets may discontinue FR 2052a reporting requirements and liquidity stress testing and buffer requirements beginning December 31, 2019, including the FR 2052a report with a December 31, 2019, as-of date.


In Case You Missed It

House Passes Financial Services Committee Bills

On January 13, the House of Representatives passed several financial services-focused bills, including H.R. 4458, the Cybersecurity and Financial Resilience Act, which would require U.S. banking regulators to report to Congress on measures they take to strengthen cybersecurity in their own agencies as well as in the firms they regulate.  Ranking Member Patrick McHenry (NC-R), the author of the legislation, penned an op-ed in Morning Consult noting, “While I appreciate our regulators’ growing sensitivity to cyber-related risks, we can and must do more. As the Fed acknowledged in its most recent Financial Stability Report, cyber resiliency is a potential risk to financial stability that doesn’t yet fit neatly into existing risk frameworks.” This legislation is an effort to address that and build a more resilient cybersecurity defense.  The House passed the bill by voice vote.

In addition, the House also passed H.R. 4841, Prudential Regulators Oversight Act, which would require the prudential banking regulators to provide a semi-annual report to Congress on their regulatory and supervisory activities, including describing matters related to safety and soundness, emerging areas of concern, Bank Secrecy Act compliance, and the related supervisory and enforcement actions they have undertaken.  The House also passed this bill by voice vote.


How and Why Are Regulators Protecting the Reputations of Banks?

On January 10, BPI President and CEO Greg Baer published a new blog post highlighting what he calls “truly eye opening” research by the University of Alabama Professor Julie Anderson Hill on the topic of regulating banks’ reputation risk. He writes:

For some time, I have expressed concerns about how the concept of reputational risk has allowed agency examiners to proscribe bank activities that are both legal and raise no material safety and soundness risk – in effect, shifting the role of the examiner from protecting depositors (and ultimately the Deposit Insurance Fund and taxpayers) to protecting shareholders, or, worse still, simply imposing political or personal preferences. And of course, the use of reputational risk has the potential to politicize examination: once the two guardrails of legality and materiality are removed, there is little to constrain the scope of examination mandates that can occur. 
Still, my laments were based on anecdotal evidence, and I never took the step of doing actual research on the topic (in part because I didn’t imagine that such research was really possible). In steps someone who actually did the work, and whose findings are revealing. 

Greg’s blog “How and Why Are Regulators Protecting the Reputations of Banks?” provides an overview of some of the key findings from the article by Professor Hill.


BPI Publishes New Research Note: “Does Excluding Reserves from the Leverage Ratio Make Quantitative Easing More Effective? More Yes than No.”

On January 15, BPI published a new research note that attempts to determine whether excluding reserves from the leverage ratio makes quantitative easing (QE) more effective. As detailed in the research note, when a central bank expands its balance sheet through the purchase of securities or by issuing new loans, there is a corresponding increase in bank deposits at the central bank. This increase in bank deposits results in an increase to bank assets, and because assets are used to calculate the leverage ratio, any increase in assets without an equal increase in capital will result in a decline to the institution’s leverage ratio. To compensate for this decline and to meet leverage ratio regulatory requirements, banks may reduce their assets by tightening credit and making fewer loans to businesses and households. The findings suggest that excluding reserves from the leverage ratio would allow the central bank to increase bank assets through QE without causing a decline to the institution’s leverage ratio and a corresponding reduction to the ability to offer credit. The note also finds that this exclusion would reduce the decline in interest rates that results from the expansion of reserves.


NIST Releases Privacy Framework

The National Institute for Standards and Technology (NIST) on January 16 released Version 1.0 of the NIST Privacy Framework: A Tool for Improving Privacy through Enterprise Risk Management. The framework provides a set of privacy protection strategies for organizations to use as they seek to improve their approach to using and protecting personal data. It was developed over a yearlong process during which the agency collaborated with a range of stakeholders. The Framework’s structure consists of three parts: the Core, Profiles, and Implementation Tiers.

The framework is not a law or regulation, but rather a voluntary tool to help organizations manage privacy risk arising from their products and services, as well as demonstrate compliance with privacy laws such as the California Consumer Privacy Act and the European Union’s General Data Protection Regulation.
To view the full framework, please click here.


UK Authorities Call On Banks to Prepare for LIBOR Transition

Yesterday, the Bank of England (BoE), the Financial Conduct Authority and the Working Group on Sterling Risk-Free Reference Rates published documents outlining priorities and milestones for 2020 on LIBOR transition. In a press release, the BoE called on firms “to accelerate efforts to ensure they are prepared for LIBOR cessation by end-2021.”  For firms to demonstrate progress, the regulators updated their roadmap to highlight actions market participants should take, such as ceasing the issuance of cash products linked to Sterling LIBOR by the end of Q320, establishing a framework for the transition of legacy LIBOR products and “[c]onsidering how best to address issues [sic] ‘tough legacy’ contracts. “The time to act is now: with the tools published today and the support of the official sector domestically and internationally, market participants have what they need to leave LIBOR behind,” the regulators wrote in the press release.


01/16/2020 – 01/18/2020 — American Bar Association Hosts 2020 Banking Law Committee Meeting including panel participation with members of the BPI team

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