June 22, 2009

President Obama Outlines a Five-Part Framework for a “New Foundation” for Regulatory Reform of the U.S. and Global Financial Markets

Holland & Knight Alert
Jose Sirven

There is universal agreement that the financial crisis has exposed critical gaps and weaknesses in the United States’ financial regulatory system. As over-leveraging occurred, internal risk management systems, rating agencies and regulators simply did not understand the magnitude of the problem. These failures caused a dramatic loss of confidence in U.S. financial institutions and have contributed to and accelerated the global recession. While many have tried to assign blame for the crisis, there is plenty of blame to go around – both the public and private sectors could have done more to prevent these problems from spiraling out of control and threatening the stability of the overall economy.

Battlelines: Public vs Private Sector

To respond to the crisis, President Obama outlined a five-part framework to reform the U.S. financial system and address financial markets. This regulatory framework briefly describes the first step in what is expected to be a lengthy and contentious legislative process between the House and Senate Committees in Congress, regulatory agencies and the private sector all vying for power and position in determining the ultimate structure of the new regulatory regime. While the precise contours of any regulatory reform effort will be months in the making, and some elements of these reforms may not be adopted until 2010, it is clear at this point that the fundamental trend is toward greater authority over systemically critical entities, without regard to their status as banks or bank holding companies. It is also likely that insurance oversight, and potentially a federal charter, will be considered as Congress seeks to reform the regulatory system.

Global Regulation: Harmonizing International Standards

The President’s plan also seeks to strengthen global financial markets by “harmonizing” international regulatory standards by calling on the Basel Committee on Banking Supervision to: (1) increase international capital requirements; (2) increase oversight of financial products and the over-the-counter derivatives market; and (3) monitor cross-border investment flows and provide increased authority for Europe’s Financial Stability Board to supervise international financial firms.

As this legislative and regulatory battle moves forward Holland & Knight will send timely updates concerning developments with a particular focus on the banking, insurance, private equity and consumer markets.

Highlights of the President’s Plan to Regulate U.S. and Global Financial and Capital Markets

The President’s plan will:

  • Create a council of regulators called the Financial Services Oversight Council to monitor risk across the financial system. The council will be chaired by the Treasury secretary and include the heads of existing federal financial regulatory agencies, including the Federal Reserve and representatives of new regulators.
  • Establish a Consumer Financial Protection Agency (CFPA) to protect consumers from deceptive practices by companies such as credit card lenders and mortgage brokers.
  • Give new authority to the Federal Reserve to supervise firms considered so big or influential – so-called Tier 1 Financial Holding Companies (FHCs) – that their failure could have a systemic negative impact on the economy.
  • Create a system to finance, dismantle or resolve a troubled firm. Once the Federal Reserve and the Treasury Department decide, the Federal Deposit Insurance Corporation (FDIC) would step in with minimal impact on investors.
  • Establish a national bank supervisor to regulate all federally-chartered banks, thrifts and federal branches and agencies of foreign banks. The Fed and FDIC would retain their existing roles in supervising state-chartered banks.
  • Eliminate the Office of Thrift Supervisions by merging it with the Office of the Comptroller of the Currency into a single regulator and eliminating the federal thrift charter.
  • Treat Tier 1 Financial Holding Companies like bank holding companies with respect to nonbanking activities, whether or not they own banks.
  • Open up interstate branching by banks, notwithstanding state laws to the contrary.
  • Retain the Securities and Exchange Commission and Commodity Futures Trading Commission as separate entities and market regulators. However, the SEC would no longer be responsible for or have a role in supervising large holding companies, as it did in monitoring Lehman Brothers and Bear Stearns. That role would be turned over to the Federal Reserve. Additionally, CFTC’s role in regulating OTC derivatives would call for greater regulation.
  • Give the SEC oversight of hedge funds and other private pools of capital, including venture capital funds.
  • Increase capital requirements for bank holding companies and Tier 1 Financial Holding Companies on a consolidated basis.
  • Require that certain participants in securitization transactions retain a 5 percent stake in all asset-backed securities transactions.
  • Require that shareholders get a non-binding vote on compensation packages for financial executives.
  • Create an office of National Insurance within the Treasury Department to review the regulation of insurance companies (now done primarily by states), monitor the insurance industry and to thereby create a federal entity to participate in international negotiations regarding issues affecting U.S. insurers.
  • Support, through the Treasury Department, proposals to improve insurance regulation, including increasing national uniformity through either a federal charter or more harmonized laws among states.

Obtain Holland & Knight’s detailed summary of President Obama’s regulatory framework, which includes the following core elements:

I. Requiring Strong Supervision and Regulation of All Financial Firms

II. Strengthening Consumer Protection With an Independent Agency With Full Authority to Protect Consumers

III. Improving International Regulatory Standards and Cooperation

IV. Strengthening Regulation of Core Markets and Market Infrastructure

V. Providing the Government With Tools to Effectively Manage Financial Crises

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