Trump can rein in financial bureau without help from Congress
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The Financial Stability Oversight Council (FSOC) hosted its first meeting under the Trump administration this week. This super council of federal financial regulators represents but one of the enormous powers granted to the executive branch by the Dodd-Frank Act. In the Trump administration, it may ironically prove to be the most powerful tool to implement the president’s promise to rethink Dodd-Frank, particularly as major financial services reform legislation likely stalls in the Senate.

The FSOC is principally known for its role in designating some large companies as systemically important or “too big to fail” and thus forcing them largely under the regulatory umbrella of the Federal Reserve. A rethink of the FSOC’s process for doing so, and of these types of prior designations, are in order and likely already underway.

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The Choice Act, a major overhaul of the Dodd-Frank Act being considered by the House, would limit the FSOC’s designation power substantially and make the process more transparent. While well-drafted, the legislation faces a high hurdle in the Senate. Meanwhile, in a recent challenge to the FSOC’s designation of Metlife as “too big to fail,” the court imposed a strong cost-benefit analysis requirement on the FSOC during the designation process.

 

The FSOC’s designation powers are primarily governed by interpretive guidance and official procedures. Many proponents of FSOC reform forget to focus on its organizational operating charter and bylaws. Those organizational documents control how the FSOC takes action, including how it designates firms.

By adopting changes to the FSOC charter and bylaws, the new Trump-era Treasury Department could implement essentially the same reforms that have been considered in the House in recent years. Bylaw and charter amendments could also operationalize the cost-benefit requirements from the Metlife challenge.

This approach could also delegate designation decisions to subcommittees of the FSOC headed by expert agencies for relevant industries. The FSOC’s bylaws and charter could, for example, require a subcommittee of the FSOC headed by the SEC to sign off on designation of asset managers. 

A lesser known power at FSOC’s disposal is the power to adopt regulatory proposals for recommendation to financial regulators with respect to issues that present a threat to the financial stability of the United States. Regulators are then required to respond to those strong recommendations. A recent study by the Federal Reserve indicates that the current implementation of Dodd-Frank’s Volcker Rule, which restricts proprietary trading by banks, poses such a threat since it destroys liquidity in the corporate bond market.

The FSOC could pass such a recommendation to the five agencies implementing Volcker, requiring them to reconsider the current draft of the law to expand existing and statutorily authorized exemptions. One such approach might allow for a safe harbor for trades which account for less than a certain percentage of a bank affiliate’s revenue or asset holdings.

Furthermore, the FSOC could pass a recommendation requiring the five agencies to enter into memoranda of understanding (or “MOUs,” a common contractual agreement between federal agencies) providing that they will mutually recognize each other’s interpretations of what type of trading is permitted under the rule. Currently, the five agency implementation structure of this rule has made it an impossible and uncertain mess to untangle.

It may take time for the nominees serving on the FSOC to cycle through before the new administration has a majority sufficient to approve the changes recommended here. That means, however, that a future administration would also require a long lead time to subsequently alter these reforms. Prior FSOC action could be entrenched by the holdover nominees. FSOC’s charter could also be amended to require that future charter and bylaw changes require a supermajority vote. 

The Dodd-Frank Act embodied a progressive belief in the power of the administrative state that was born in the Wilson administration and rose to power in the New Deal era. President Obama and the drafters of the Dodd-Frank Act probably never imagined they were empowering a future president to rethink regulatory excess. They may soon learn the wisdom of the proverb “be careful what you wish for.”

J.W. Verret is an associate professor at the Antonin Scalia Law School at George Mason University and a senior scholar with the Mercatus Center.


The views expressed by contributors are their own and are not the views of The Hill.