Below this short blog post, you will find a very lengthy description of what victories were won in the Wall Street reform bill, what compromises were made, and what defeats were suffered. It is, on balance, an argument for why we should pass the Wall Street reform bill, and a roadmap of where the fight continues.
Senator Russ Feingold is a personal hero of mine. Yesterday, he posted an editorial explaining why he is opposing this bill. I am not going to pick a fight with Senator Feingold over what he could have done, or should have done on the bill. While this is a rebuttal of sorts, mainly it is to let people know that there is a lot of good in this bill, and it is possible to present that information in an honest, self-aware manner that acknowledges where it falls short.
There are a lot of victories in this bill. We need to pass those victories into law. If the bill is defeated by pro-Wall Street forces over the next two weeks, the only parts which will be defeated are the victories, while all of its shortcomings will remain in place. If it is defeated, the 1999 financial deregulation package will remain the basic framework under which our financial system operates, and we all know how that worked out. If it is defeated, no one will ever really take on the banks again, as even after a financial meltdown, even at the trough of their popularity, and even during wide Democratic control of Congress, their victory now would demonstrate their invincibility.
The list below was prepared by numerous people associated with Americans for Financial Reform. It is a work in progress, but I hope you find it to be a useful resource.
Pass the bill.
What happened on Wall Street Reform? Battles won, lost and somewhere in between...
Systemic risk regulation
- Systemic risk monitoring: A new, council of regulators will both monitor system-wide risk and advise the Federal Reserve Board - the current primary systemic risk regulator.
- Oversight and limits: For the first time, there will be higher capital, leverage and liquidity standards on the biggest, riskiest financial firms, as well as bank-like oversight for large "shadow bank" financial companies like AIG and the mortgage financers that were at the center of the crisis.
- We lost: There remains an unnecessary loophole, inserted in the Senate at the last minute that unnecessarily allows any financial firm that is just 16 percent commercial to escape oversight from the systemic risk council, no matter the threat the firm could pose to the economy.
"The Volcker Rule" The so-called "Volcker Rule" ensures that banks do not make risky "proprietary" bets for their own accounts with taxpayer-backed deposit funds and limits investment in private funds.
- The Volcker rule was not in the House bill at all. In the Senate-passed version, regulators had wide authority to define proprietary trading. The conference report tightens the definition, narrows exemptions and makes the rule a law, not able to be undone by future regulators.
- It also includes language banning Goldman-style conflicts-of-interest wherein Wall Street firms package risky securities for customers and then bet that they will fail.
- Long before the conference, efforts to limit the size of banks, as in the Brown-Kaufman amendment, or fully separate Wall Street speculation from Main Street banks with a new Glass-Steagall, were defeated.
- We compromised: Sen. Scott Brown was able to win a classic special-interest carve-out that allows banks to trade using private-equity and hedge funds, though they will be limited to investing no more than 3 percent of bank capital and own no more than 3 percent of the fund. But we won key safeguards protecting taxpayers from the danger of Sen. Brown's carve-out: banks will have to hold in capital reserves every dollar that they invest in hedge funds and private equity funds. Additionally, banks cannot bail out their funds.
Taking on Bank Risk:
- We won: The final bill ensures that firms don't become too exposed to any single financial counterparty or to their own affiliates. Also, banks will have to hold capital in reserve that reflects all the off-balance sheet debt they could potentially be responsible for in the event of a crisis.
- We compromised: The final bill includes delayed implementation of rules to improve the quality of capital that banks have to hold and ensure that leverage and capital standards are higher in the future than they are today.
- We lost: The House would have required systemically-risky financial companies to hold at least $1 in capital for every $15 in debt. The conference turned that reasonable leverage ratio into a discretionary standard the Fed could impose only if the systemic risk council finds that the firm poses a grave threat to the economy.
- The bill expands the FDIC "resolution authority" - the authority to dismantle failing banks - so that the government can safely shut down not just depository banks, but shadow banks like AIG or the conglomerates that own banks (like Citigroup). This will be critical to containing the next financial company failure and providing an alternative to bailouts.
- To pay for costs associated with the entire bill, the conference originally included a risk-based assessment on large hedge funds and Wall Street banks, to be used in the event of liquidation or, after 25 years, to pay down the national debt. In other words - those that caused the mess will pay to clean it up. Republicans protested, the conference report was reopened, and fee was changed so costs associated with the bill would now be paid for by a combination of TARP funds and an increase in premiums big banks now pay the FDIC
- We lost: The House bill included a $150B fund paid for by the big banks that would protect taxpayers from the cost of shutting down a large, failed financial firm. Opponents of reform grabbed onto the liquidation fund as a talking point - claiming, nonsensically, that this industry-paid fund for shutting down firms was a "bailout fund".
- We compromised: The fund was replaced by a line of credit from Treasury to be repaid by Wall Street in the future.
Federal Reserve Governance Reform:
Today, the powerful Federal Reserve is functionally controlled by its regulated banks, with banks choosing 2 out of every 3 regional Fed Bank directors.
- We won: The bill partially ends this conflict of interest by eliminating the ability of the bank representative directors to vote for the regional bank Presidents.
- We lost: The conference eliminated the most powerful provisions: barring member banks from voting for directors or bank officers serving as directors ("the Jamie Dimon rule") and making the powerful NY Fed Bank President presidentially-elected.
Federal Reserve Transparency / Audit:
- The bill includes a one-time audit of all Federal Reserve 13(3) emergency lending during the '07-'08 financial crisis, and ongoing GAO audit authority for future 13(3) and Fed discount window lending, as well as its open market transactions.
- The bill also ends the Fed's open-ended bailout authority by limiting 13(3) lending to system-wide support for healthy companies, not propping up individual troubled firms, and requiring that taxpayers be paid back.
- We lost: However, the conference eliminated the House's more comprehensive audit of the Federal Reserve.
- We won: Despite tremendous pressure from special interest groups claiming they should be exempt from clearing requirements, it is estimated that the conference report will require around 90% of standard derivatives to clear. This means that once the bill is passed large banks, insurance companies, hedge funds and other financial institutions will be required to submit standardized swaps to clearinghouses and post margin to back their bets. The only exemptions from the clearing requirements are for commercial companies like airlines and home heating oil distributors and other small players in the derivatives market who are legitimately hedging risk.
- Derivatives will be traded on an open, regulated exchange or "swap executive facility" much like the New York Stock Exchange.
- Regulators will have the information they need to oversee risky activities and prevent fraud.
- Market participants will also be able to access a constant feed of real-time pricing data for standard derivatives that will allow them to shop around for the best deals on derivatives so they can manage price fluctuations in products they use in their day-to-day operations.
- We won: Regulators have authority to take action if a clearing house refuses to accept a transaction that regulators have determined must clear.
- We compromised: The only limit on regulators' authority is that they cannot force a clearinghouse to accept a swap for clearing if it would undermine the financial integrity of the clearinghouse or create systemic risk.
- We won: Foreign exchange swaps are required to clear and trade unless the Secretary of Treasury makes a determination that they should not. This determination must be based on a variety of factors including whether comparable regulation is in place and whether regulating these trades could result in systemic risk. In addition, if the Secretary of Treasury determines that clearing and trading are not required, he must report to Congress. All federal financial regulators will also be required to write rules to protect retail investors in this market.
- We compromised: The SEC and CFTC have authority to set a hard cap on clearinghouse ownership so big banks can't use their ownership interests to force standard swaps to be done in the unregulated markets that are more profitable for the biggest banks.
- We lost: Reformers wanted a set standard - big banks couldn't control more than 20 percent of voting interests in a clearinghouse, period.
- We won: Regulators will have the authority to put rules in place that can prevent the conflict of interest that exists when the same people who profit from unregulated trades participate in the decision whether trades should be conducted in the less profitable regulated markets. This may include hard caps on banks' ownership interest in a clearinghouse.
- We lost: The Senate bill gave swaps dealers a fiduciary duty to pension funds and municipalities. The conference report weakens this duty, creating a loophole that says the fiduciary duty exists when the broker is acting as an adviser, but in comparable provisions under existing law that apply to securities broker-dealers, a broker-dealer is almost never deemed to be acting as an adviser.
- We won: The bill provides business conduct standards and disclosure requirements for swaps dealers when they do business with pension funds and municipalities.
- We won: The Senate-passed bill required taxpayer-backed institutions to spin off their swaps desks so no taxpayer money could be at risk, ever. That provision was weakened in conference to apply to only between 3 and 20 percent of swaps activity and to force the desks into a separately capitalized subsidiary. It does, however, include the riskiest activities including some of those most associated with the crisis - such as a credit-default swaps in which companies like AIG sold insurance on their bets to companies like Goldman Sachs without having to prove they had the money to pay if the bets went bad.
- We lost: The conference report provides that banks may continue to deal in swaps if they pertain to "permissible assets", as defined in current banking law. Swaps based on permitted assets include swaps based on interest rates, currency, gold and silver. Insured institutions will also be permitted to trade cleared, investment grade CDS. That could leave 80 percent or more of the activity on swaps desks still under the auspices of taxpayer-backed institutions.
Consumer Financial Protection Bureau Independence:
- We won: The agency will be led by a director appointed by the president and confirmed by the Senate. It is housed in the Federal Reserve but not subservient to it. That is consistent with the original vision for the agency.
- We compromised: The bureau's rules could be overridden by the new Financial Stability Oversight Council if the panel decided that they threatened the safety, soundness or stability of the U.S. financial system.
- We won: the bureau will write consumer-protection rules for banks and other firms that offer financial services or products. It will enforce those rules for banks and credit unions with more than $10 billion in assets. This includes, for example, the authority to require credit-card issuers like Citigroup to reduce interest rates and fees, or mortgage lenders to give clear information to borrowers.
- CFPB does not have examination or enforcement authority over smaller banks and financial institutions
- CFPB does not have blanket authority to step in if prudential regulators fail to do their jobs with regard to small banks and financial institutions.
Funding for Bureau Reformers wanted to ensure the Bureau's funding was not dependent on the appropriation process, which is unstable.
- We won: Upon request of the director the CFPB gets a percentage of the total operating expenses of the Federal Reserve System. The agency can also request up to $200 million more through the appropriations process.
Specific financial products and practices Private student loans: These are some of the sketchiest financial products out there. These loans have typically been variable rates with no cap no deferment options, affordable payment plans, loan forgiveness programs or cancellation rights in the cases of death or disability that federal loans provide.
- We won: The CFPB will write rules that apply to all private student loans, including those made by Sallie Mae, by big banks and by career colleges that offer private loans. CFPB will enforce those rules for all private loans provided by all nonbanks and by banks with more than $10 billion in deposits. This enforcement power includes power over Sallie Mae, the nation's largest provider of student loans. This was a major battle because as originally written, Sallie Mae could have been exempted because it actually makes the loans through a spin- off entity, Sallie Mae bank, which has smaller than $10 billion in deposits.
Arbitration: Forced arbitration clauses are hidden in the fine print of consumer and investment contracts and strip the consumer and investor of the right to file claims against major Wall Street firms, instead funneling those claims in an unaccountable and biased private system.
- The SEC and CFPB can ban forced arbitration within their respective jurisdictions.
- Forced arbitration in residential mortgages is banned outright.
- We compromised: The CFPB must study the issue first before instituting a ban
Auto loans: Most car dealers make the bulk of their profit not from the sale of the cars but from financing - much of which is not advantageous to the buyer. Tricks and traps abound
- We lost: Amazingly, car dealers - the least trusted most complained about businesses in most states - managed to win an exemption from oversight by the CFPB
- We compromised: The Federal Trade Commission, which currently regulates car dealers, can now operate under a much quicker and simpler procedure for making rules related to auto financing
- The Federal Reserve will get authority to limit interchange, or "swipe" fees that merchants pay for each debit-card transaction. Retailers can refuse credit cards for purchases under $10 and offer discounts based on the form of payment.
- Merchants will be able to route debit-card transactions on more than one network, which will provide competition ina previously non-competitive market.
- The bill exempt lenders with assets of less than $10 billion, or 99 percent of U.S. banks.
- Electronic benefits transfer (EBT) and other prepaid cards are also exempted
Credit Rating Agencies
Credit-ratings agencies had been held up historically as neutral arbiters of risk. That turned out to be far from the truth, as evidenced by the numerous mortgage-backed securities and other risky securities that states and municipalities in particular bought because they had been slapped with a AAA rating - meaning they were supposed to be virtually risk-free. The problem was that credit rating agencies made money by giving their customers the ratings they wanted. There was little or no accountability for the agencies because it was nearly impossible to sue them.
Rules & Oversight
- For the first time, the SEC will have an Office of Credit Ratings to keep a watchful eye on the rating agencies' critical role in our financial system. The Office will have the authority to write rules and levy fines.
- The SEC will have a new mandate to examine rating agency operations.
- Credit rating agencies will be required to disclose the data and methodologies used in their ratings, as well as ratings performance.
- The SEC will have the authority to deregister an agency for providing bad ratings over time.
- Raters must meet standards of training, experience, and competence, and be tested.
- The SEC shall issue rules to prevent sales and marketing considerations from influencing the production of ratings.
- Raters will have to take into consideration credible information that comes to their attention from a source other than the organizations being rated.
- Credit rating agencies are explicitly prohibited from advising an issuer and rating that issuer's securities.
- The bill eliminates the credit rating agency exemption from the Fair Disclosure rule which provides that when an issuer shares important nonpublic information with certain parties, now including rating agencies, it must make public disclosure of that information.
- The bill replaces the term "furnish" with "file" in existing statute. Information that is "furnished" to the SEC is subject to a lower standard of accuracy and liability than information that is "filed" with the SEC.
Conflict of Interest
- We won: The SEC will create a new mechanism to prevent issuers of asset-backed securities from picking the agency they think will give the highest rating. Unless a stronger mechanism is identified in the SEC study, an independent, investor-led board will assign rating agencies to provide initial ratings of asset-backed securities.
- We won:
- Investors will now be able to recover damages in private anti-fraud actions brought against rating agencies for gross negligence in the rating.
- Registered credit rating agencies will no longer be exempt from expert liability under the securities laws. The SEC originally exempted rating agencies from liability to encourage reliance on credit ratings in the registration of securities. Eliminating the exemption is consistent with the bill's goal of reducing such reliance.
- The bill clarifies that ratings are not forward-looking statements entitled to special protections from liability.
- We won: Raters must apply ratings consistently for corporate bonds, municipal bonds, and structured finance products and instruments, based on probability of default.
Reliance on Ratings
- We compromised: All federal agencies will review their rules and regulations and eliminate all references to credit ratings. We support a reduction in the over-reliance on ratings, but a sufficient alternate standard of creditworthiness will need to be found for some federal rules.
Rating Agency Governance
- At least half of a credit rating agency's boards of directors must be made up of independent members with no financial stake in credit ratings.
- When a rating analyst switches jobs, the analyst's ratings will be reviewed and the job change will be made public.
- Compliance officers isolated from the rating and sales business will be required to file reports on rating agencies' adherence to rules.
- We lost: The final bill did not include a requirement that credit rating agencies monitor and update ratings as market conditions change. However, the initial rating assignment mechanism will take into account long-term rating performance.
Public Rating Utility
- We lost: Many reformers believed that the best way to solve the problems associated with credit ratings agencies was to create a public agency. This was never really given serious consideration in either the House or Senate.
Other Consumer Protections and Assistance
Note all the wins. Probably did best in this area:
Abusive mortgage protection
- Lenders cannot sell mortgages unless they determine that borrowers can afford to repay - even after teaser rates expire.
- Prepayment penalties that can trap borrowers in abusive loans are banned for adjustable rate, subprime, and other risky mortgages, and limited for all home loans.
- No more kickbacks for mortgage companies and brokers for steering customers into higher cost loans than they qualify for..
- Limiting fees on all loans, and providing extra protections on high cost loans.
Financial assistance for families and communities
- A new $1 billion emergency loan fund to help families at risk of losing their homes because of unemployment or illness.
- Expands access to community-based financial planning services, giving more families guidance on building credit, identifying good loans and so on.
- Provides grants to help families connect to bank accounts and provides funding to Community Development Financial Institutions to create affordable alternatives to payday loans.
- Additional funds for communities to put foreclosed and abandoned homes back to use for families.
- More transparency for the HAMP program that we can use to push it to do a better job for households facing foreclosure.
- Data enhancements for HMDA (Home Mortgage Disclosure Act) which include information on loan terms and conditions & the age of borrowers.
- Data on small business lending that will help assess whether woman and minority-owned small business are receiving loans to start or expand their businesses. These data enhancements give us more of the tools we need to keep quality loans flowing to communities, and see and stop abusive practices.
- A default and foreclosure database that would be an early warning system enabling stakeholders to take action if the data shows a spike in foreclosures.
- A database of individual loan records in the Home Affordable Modification Program (HAMP) program. This will increase the accountability of the industry for modifying distressed loans
- We won: Creates new disclosures that will allow senders to know exactly how much of the money they transferred will actually get to loved ones in their home country rather than being siphoned off for fees. This information will let people compare prices and shop for the most economical service.
Student loan reforms
- Private student lending - till now badly under-regulated, and full of abusive practices - covered by CFPB rulemaking and enforcement authority.
- Creation of a private student loan ombudsman for the federal government, charged both with assisting borrowers and with analyzing complaints and making policy recommendations to Congress and the Administration to address them.
- Report on private student loans. Within two years of enactment, the CFPB is to issue a report on private student loans, including growth and changes in the market, the underwriting and terms of the loans, who is taking them out and why, and if students have taken out the maximum in federal loans first.