Top of the Agenda

BPI, CLEARING HOUSE CONCLUDE ANNUAL CONFERENCE WITH REGULATORS, INDUSTRY LEADERS

The Bank Policy Institute and the Clearing House concluded on Wednesday a three-day annual conference with industry leaders, academics and regulators. Topics included cybersecurity, anti-money laundering reform, prudential regulation, economic inequality, the payments systems and innovation.

On the closing day of the conference, Federal Deposit Insurance Corp. Chairman Jelena McWilliams delivered a speech on how the FDIC is working to give the largest financial institutions more clarity in the resolution process. She said the FDIC along with the Federal Reserve is reviewing resolution planning or “living wills” to make these plans “more targeted” and said she expects to publish for comment a proposal to amend the rule in the coming months. Further, she noted significant “structural and operational improvements” to enhance resolvability of U.S. globally systemically important banking organizations (GSIBs) and said she strongly supports bipartisan bankruptcy reform efforts in Congress for further improvements. In the meantime, she noted that the FDIC is considering refinements to improve the Orderly Liquidation Authority to bring more certainty and transparency to the process. McWilliams said the FDIC is developing a proposal requiring resolution plans for insured depository institutions, the so-called “IDI rule.” McWilliams said the FDIC will issue the proposal in the next few months, and no firm will need to file a plan until the rulemaking process is complete.

Federal Reserve Board Vice Chairman Richard Clarida said in his speech at the BPI conference that at this stage of the interest rate cycle, it will be especially important to monitor a wide range of data as the Fed continually assess and calibrate whether the path for the policy rate is consistent with meeting its dual mandate. And Federal Reserve Bank Presidents discussed the payments system and the intersection of banks and nonbank financial firms.

Despite updates in innovation, Bank of America CEO Brian Moynihan said the U.S. is very far from a cashless society with Bank of America releasing $250 million a day in cash from tellers and $250 million from ATMs each day. Also, BB&T Corporation CEO Kelly King noted the importance of monitoring cybersecurity risks. And Andrea Sharrin, Associate Director of Policy Division for Financial Crimes Enforcement Network, said there are new innovative approaches for developing better information that can be used by law enforcement in AML compliance. She said FinCEN wants to make sure that the regulations don’t operate as a barrier for that to happen but rather to encourage it.

BPI OFFERS ALTERNATIVE METHODOLOGIES TO DETERMINE BANK CAPITAL FOR STRESS TESTS

On November 20, BPI published a new research note entitled, “A Better Way to Combine Stress Test Results,” where we describe a way that multiple stress test projections can be combined to deliver a near-optimal measure of bank risk, albeit under some strong simplifying assumptions.

The new note presents a straightforward and intuitive way to combine projections of bank performance under multiple scenarios to determine the capital required to pass the annual stress test. This approach would both provide a more accurate measurement of bank risk and reduce the unintended and unwanted incentives that lead to increased correlation of bank performance.

BPI SUBMITS A COMMENT LETTER ON HIGH VOLATILITY COMMERCIAL REAL ESTATE EXPOSURE

On Tuesday, BPI submitted a comment letter on the interagency proposal to revise the definition of High Volatility Commercial Real Estate (“HVCRE”) exposures, in line with the requirements contained in Economic Growth, Regulatory Relief, and Consumer Protection Act. The letter offers recommendations to clarify the scope of the revised definition and suggests the agencies clarify the applicability of their outstanding HVCRE-specific FAQs. The letter also requests that the agencies consider eliminating the regulatory classification of HVCRE exposures after a review and assessment of the scope of exposures that would remain classified as HVCRE per the revised definition.

BPI ENCOURAGES TRANSPARENCY, FLEXIBILITY IN PROPOSED MODERNIZATION OF COMMUNITY REINVESTMENT ACT

On November 19, the Bank Policy Institute submitted a comment letter to the OCC in response to its ANPR soliciting ideas for building a new regulatory framework to modernize the Community Reinvestment Act (CRA). Emphasizing the need for simplification, transparency, and certainty, BPI’s comment letter recommended 13 principles to guide the agency in its efforts, encouraging fidelity to the language and purpose of the statute. The letter specifically recommends the inclusion of an evaluation method for banks whose business is not clustered in geographies circumscribed by their branches and calls more broadly for a CRA framework that accommodates changing economic conditions and a diversity of bank business models, capabilities, and opportunities.

BPI Events

BPI HOLIDAY PARTY

Join BPI for our Holiday Party as we celebrate 2018 and usher in the holiday season! The party will be December 4 from 5 pm to 7 pm at the BPI Headquarters.

NYU STERN-BPI GALLATIN LECTURE SERIES ON BANKING

The New York University Stern Business School and BPI host a lecture entitled, “A Crisis of Beliefs: Investor Psychology and Financial Fragility,” with Andrei Shleifer, John L. Loeb Professor of Economics, Harvard University, on Dec. 4 at 5 pm.
Henry Kaufman Management Center
44 West Fourth Street (corner of Greene Street), NYC

COLUMBIA/BPI 2019 RESEARCH CONFERENCE – BANK REGULATION, LENDING AND GROWTH

The Bank Policy Institute and Columbia University’s School of International and Public Affairs invite submission of papers for a conference on Bank Regulation, Lending and Growth. The purpose of the conference is to bring together academics, market participants, and policymakers to discuss the latest research on how regulation affects credit formation and economic activity.
March 1, 2019, Columbia University, NYC

Industry News and Events

FEDERAL RESERVE’S QUARLES APPOINTED TO LEAD FINANCIAL STABILITY BOARD

The Financial Stability Board on Monday appointed Federal Reserve Vice Chairman of Supervision Randal Quarles as its new chairman. Chairman Quarles will lead the FSB for a three-year term beginning December 2. Dutch central bank president Klaas Knot will serve as vice chairman, and then he will take over as chairman on Dec. 2, 2021.

EUROPEAN DATA BOARD RELEASES GUIDANCE ON SCOPE OF NEW PRIVACY LAW

On November 23, the European Data Protection Board released for public comment its guidance on the territorial scope of the European Union’s new privacy law, the General Data Protection Regulation (GDPR). The guidance comments on various aspects of the regulation, including the application of the establishment and targeting criteria, processing in places where EU law applies by virtue of public international law, and representation of non-EU controllers and processors. Comments on the guidelines are due on January 18, 2019.

HOUSE AND SENATE PASS SHORT TERM FLOOD INSURANCE EXTENSION BILL

The House and Senate agreed on Thursday to extend the National Flood Insurance Program through December 7, adverting a lapse on Friday. The legislation gives lawmakers a few more days to pass a longer extension bill.

FEDERAL RESERVE RELEASES FIRST FINANCIAL STABILITY REPORT

On Wednesday, the Federal Reserve Board issued its first twice-yearly Financial Stability Report. The Fed concluded that risk spreads on business debt were narrow, borrowing by businesses was elevated, and there are signs of deteriorating credit standards on business loans. The report also noted that the nation’s largest banks are strongly capitalized, and leverage of broker-dealers is substantially below pre-crisis levels. Relative to before the crisis, banks hold more liquid assets, and money market mutual funds are less vulnerable to destabilizing runs by investors, the Fed reported. The Fed identified three near-term risks to the financial system:  Brexit and Euro-area fiscal challenges; problems in China or other emerging market economy spilling over to the United States; and trade tensions, geopolitical uncertainty, or other developments leading to large declines in asset prices.

“…[T]he report does not come to a bottom line conclusion… My own assessment is that, while risks are above normal in some areas and below normal in others, overall financial stability vulnerabilities are at a moderate level,” Federal Reserve Chairman Jay Powell said in a speech at the Economic Club of New York.

BANK OF ENGLAND LOWERS STRESS TEST HURDLE RATES TO ACCOUNT FOR THE NEW ACCOUNTING STANDARD

On Wednesday, the Bank of England released their 2018 stress tests results. Aggregate common equity Tier 1 (CET1) ratio of UK banks declined 5.4 percentage points under stress. An important element of this year’s stress tests was the assessment of banks’ capital buffers under the new accounting standard known as, International Financial Reporting Standards 9 (IFRS 9). Due to the earlier recognition of loan losses under IFRS 9, the report shows more pronounced declines in the CET1 ratio under stress where banks’ CET1 ratios would have declined by an additional 1.3 percentage point at its lowest point.

FSB CALLS FOR IMPLEMENTATION OF KYC FOR CORRESPONDENT BANKING

On November 16, the FSB announced a shift in focus to monitoring implementation of its 2015 plan for correspondent banking and, while noting a possible return to specific actions, called for in-country regulators to work with financial institutions to implement increased standardization of know your customers (KYC) utilities, as well as transition to a new payment format encouraging increased transparency and legal entity identifiers (LEI) use. The announcement comes despite the same-day release of two reports indicating the continued decline in the number of active correspondent banks.

FSB RELEASES FINAL REPORTING REQUIREMENTS FOR COMPENSATION TOOLS TO ADDRESS MISCONDUCT RISK

On Nobember 23, the FSB published its final recommendations for national supervisors for reporting on the use of compensation tools to address potential misconduct risk, which conforms in several respects to recommendations in BPI’s July 2018 comment letter on the draft guidance. BPI previously encouraged the FSB to make the proposed data collection framework more principles-based and better tailored to misconduct risk if it decided to finalize the recommendations. While specific prescriptive data collection recommendations remain in the final document, the FSB made changes to further emphasize the role of national laws and supervisory processes in the framework’s implementation, and to enhance principles-based guidelines to address broad misconduct risk.

FSB, BASEL, ISCO RELEASE REPORT ON PROGRESS OF DERIVATIVES CLEARING POST-CRISIS REFORMS

In their November 19th final report on CCP-clearing incentives, the Financial Stability Board, Basel Committee, and International Organization of Securities Commissions found that the leverage ratio’s treatment of initial margin may discourage client clearing. The report notes that relevant post-crisis reforms, in particular the capital, margin and clearing reforms, together create an overall incentive, at least for dealers and larger and more-active clients, to centrally clear OTC derivatives. However, clearing incentives are weaker for small and less-active clients who have a lower degree of access to central clearing. The report finds concentration of clearing in a relatively small number of bank-affiliated firms.

HOUSE DEMOCRAT CAUCUS MAKES LEADERSHIP PICKS WITH PELOSI WINNING SPEAKER

The House Democratic Caucus held leadership elections on Wednesday following the midterm elections that saw them take control of the House. Rep. Nancy Pelosi (D-CA) won the Democrat caucus’ nomination for Speaker of the House with a vote of 203-32. The speaker will be elected on the House floor January 3, 2019. Rep. Steny Hoyer (D-MD) was elected to serve as the Majority Leader and Rep. James Clyburn (D-MD) was elected to be the Majority Whip. Rep. Hakeem Jeffries (D-NY) was elected Democratic caucus chair with a 123-113 vote defeating veteran Rep. Barbara Lee (D-CA), a former Congressional Black Caucus chairwoman.

SENATE BANKING COMMITTEE MEMBERS CALL FOR AML REFORMS

On Thursday, the Senate Committee on Banking, Housing, and Urban Affairs held a hearing on anti-money laundering reform. The witnesses included officials from the Financial Crimes Enforcement Network (FinCEN), the FBI, and the OCC. There was bipartisan agreement that the BSA/AML regime should be updated, with broad support for beneficial ownership and further debate on the merits of raising the SAR/CTR thresholds. Each witness testimony included support for beneficial ownership, and while several members raised the need for legislation, it is noteworthy that no member raised objections or even concerns with the creation of a beneficial ownership requirement.

FTC COMMISSIONERS CALL ON CONGRESS TO UPDATE DATA PRIVACY STANDARDS

On Tuesday, the Senate Commerce, Science, and Transportation Committee held a hearing on oversight of the Federal Trade Commission. The witnesses included five commissioners from the FTC, including Chairman Joseph Simons. The commissioners urged Congress to provide the agency with the additional resources and authority necessary to enforce data and privacy legislation. They also noted the need for Congress to pass bipartisan and comprehensive data privacy and security legislation. The commissioners and the Senators called for prioritizing data privacy and security legislation.

NOTEWORTHY UPCOMING HEARINGS

GSE Pilots: The Senate Banking, Housing, and Urban Affairs will hold a hearing on December 5 at 10 am on Pilot Programs at Fannie Mae and Freddie Mac. Witnesses include Sandra Thompson, deputy director of the Federal Housing Finance Agency, Fannie Mae Interim Chief Executive Officer Hugh Frater and Freddie Mac Chief Executive Officer Donald Layton. This hearing was rescheduled from November 14.

Proxy Rules: The Senate Banking, Housing, and Urban Affairs will hold a hearing on December 6 at 10 am on proxy rules. Witnesses include Dan Gallagher, Chief Legal Officer, Mylan N.V., and former Securities and Exchange Commissioner; Michael Garland, Assistant Comptroller, Corporate Governance and Responsible Investment, Office of the Comptroller; and Thomas Quaadman, Executive Vice President, Chamber Center for Capital Markets Competitiveness.

SEC Oversight: The Senate Banking, Housing, and Urban Affairs will hold a hearing on December 11 at 10 am on Securities and Exchange Commission oversight with SEC Chairman Jay Clayton.

International Institutions: The House Financial Services Subcommittee on Monetary Policy and Trade will hold a hearing on international financial institutions on December 12 at 10 am with David Malpass, Treasury Under Secretary for International Affairs, testifying.

Research Rundown

FINANCIAL STRUCTURE AND INCOME INEQUALITY

This paper empirically investigates the relationship between income inequality and the development and structure of financial systems. Using a panel of 97 developing and advanced economies from 1989 to 2012, the authors find the relationship is nonlinear. Up to a point, more finance correlates with lower inequality. After that point, however, the relationship depends upon the structure of the financial system, with more market-based financing increasing inequality but more bank lending having the opposite effect.

THE EFFECTS OF THE ABILITY-TO-REPAY / QUALIFIED MORTGAGE RULE ON MORTGAGE LENDING

This research note examines the effects of the Ability-to-Pay/Qualified Mortgage rule on incidence and pricing of mortgages. The authors find that lending to borrowers with a high debt-to-income ratio declined and that the cost of credit increased for nonconforming mortgages.

THE DIFFERING EFFECTS OF THE BUSINESS CYCLE ON SMALL AND LARGE BANKS

This note investigates the drivers of the cyclical properties of net interest margins (NIMs) at banks. The NIMs of large banks are negatively correlated with the business cycle, while the NIMs of small banks are procyclical.

COUNTERING THE GEOGRAPHY OF DISCONTENT: STRATEGIES FOR LEFT-BEHIND PLACES

This report suggests a program of national actions to counter the growing economic divergence between communities of various sizes. Since the 1980s, the spread of digital technology has rewarded dense urban areas with growing employment levels and average wages while median and small communities have grown more slowly. The authors argue for a strategy that both encourages economic development, but ensures growth is not concentrated strictly in urban areas.