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E-MailMargaret E. Tahyar is a partner and member of the New York Financial Institutions Group at Davis Polk & Wardwell LLP. This post is by Ms. Tahyar, Robert L.D. Colby, Randall D. Guynn, Arthur S. Long, Annette L. Nazareth, and Reena Agrawal Sahni, and refers to two recent Davis Polk client memorandums, which are available here and here.
The financial regulatory reform bill passed by the Senate Banking Committee on March 22, 2010 represents the latest milestone on the road to regulatory reform. The Committee bill, as amended by the subsequent manager’s amendment, reflects a series of new proposals and compromises between legislators and regulators. A few of the key provisions of the Senate Banking Committee’s bill and their state of play are described below. For more detail, please see Davis Polk’s memoranda, Summary of the March 15, 2010 Draft of the Restoring American Financial Stability Act, Introduced by Senator Christopher Dodd (D-CT), and Summary of Manager’s Amendment to the March Dodd Bill.
As compared to Senator Dodd’s November financial regulatory reform proposal, the Federal Reserve maintains significant power over banks and financial institutions. The Federal Reserve is given rulemaking authority over all bank and thrift holding companies, has supervisory authority over bank and thrift holding companies with assets of $50 billion or more, and gains supervisory authority over systemically important nonbank institutions.
In general, the bill sets the framework for systemic regulation and leaves the details to be worked out through regulation, with the so-called “Volcker Rule” as the big exception. The Volcker Rule prohibits insured depository institutions, their holding companies, and any of their subsidiaries from engaging in proprietary trading and or investing in or sponsoring hedge funds or private equity funds. The provision would also impose additional capital requirements and quantitative limits on systemically important nonbanks that engage in these activities. While implementation of the Volcker Rule is subject to a study by the new Financial Stability Oversight Council, the Council’s authority is limited to recommending “modifications” to the provision. The manager’s amendment, which many thought would replace the prohibition with regulatory discretion to impose limitations on these activities, actually strengthened the provision. Many constituents hope the provision will be relaxed on the Senate floor.
While the bill’s resolution regime is modeled on the bank insolvency statute applicable to insured depository institutions, certain changes from the House bill passed in December and Senator Dodd’s proposed bill from November narrow the gap between creditors’ rights under resolution authority and those rights under the Bankruptcy Code. In addition, the bill imposes an extra procedural hurdle to placing a company into resolution, requiring a special panel of bankruptcy judges to determine that there is a “substantial basis” for concluding that the financial company is in “default or in danger of default.” The bill also establishes a pre-paid orderly liquidation fund, with a target size of $50 billion, rather than $150 billion as in the House bill.
On consumer protection, the bill grants a Bureau of Consumer Financial Protection, housed in and funded by the Federal Reserve, broad powers to promulgate and enforce substantive standards for persons engaged in offering or selling a “consumer financial product or service.” Like the House bill, the bill carves out from the Bureau’s authority a number of regulated entities, although the extent of certain of the carve-outs is unclear due to drafting differences between the two bills. While the bill permits preemption of state law in accordance with a specified standard, state attorney generals may enforce the Bureau’s consumer protection regulations and other federal consumer financial laws. The existence and authority of the Bureau is a key point of discussion between Democratic and Republican senators, and the final bill may differ significantly from its current form.
Like the House bill, the bill’s derivatives title subjects dealers and major swap participants to heightened regulation, including mandatory clearing, exchange trading, capital and margin requirements and potentially position limits. However, several issues—including the definition of a “major swap participant,” permissive exemptions from clearing and trading, and rules governing “conflicts of interests” between clearing houses and exchanges, on the one hand, and swap dealers and major swap participants, on the other hand—still remain under debate.
On the capital markets front, the bill significantly narrows federal preemption of state securities laws for Reg D offerings. A Reg D filing that is not reviewed by the SEC within 120 days of filing loses its eligibility for federal preemption, unless the SEC determines within the same 120 period that the filer attempted to comply with the private placement filing requirements. Commentators have argued that this provision would effectively gut federal preemptions for Reg D offerings, as issuers will no longer have legal certainty of federal preemption and will have to assume that state securities filings and clearance requirements will apply. In addition, the bill requires the SEC to conduct a rulemaking to determine whether certain types of offerings should not qualify for federal preemption because of their small size or scope.
Chairman Dodd has said that negotiations will resume when the Senate returns from its Easter Break, evidence of a desire among Democrats to seek a vote of the full Senate on the bill before the Memorial Day break.
