Tag: Financial Crisis


Board Governance: Higher Expectations, but Better Practices?

Dan Ryan is Leader of the Financial Services Advisory Practice at PricewaterhouseCoopers LLP. This post is based on a PwC publication by Mr. Ryan, Jeff Lavine, Adam Gilbert, and Armen Meyer. The complete publication, including appendix, is available here.

The board’s role in risk governance continues to attract the attention of regulators who demand that the appropriate risk tone be set at the top of financial institutions. While the largest US banks have made significant progress toward meeting these expectations, many institutions still have a lot of work to do.

Our observations of the policies and practices of the largest US banks indicate that boards have undergone structural and functional transformation in recent years. We are finding that this transformation has been fueled not only by banks’ need to satisfy regulators, but also by their own realization of the benefits of stronger risk governance. We believe the post-crisis regulatory requirements and heightened expectations for risk governance, when fully implemented, will lead to improvements in the board’s understanding of risk taking activities and position the board to more effectively challenge management’s actions when necessary.

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Equity Market Misvaluation, Financing, and Investment

Toni Whited is Professor of Finance at the University of Michigan. This post is based on an article authored by Professor Whited and Missaka Warusawitharana, Principal Economist at the Board of Governors of the Federal Reserve System.

Stock market volatility often dwarfs the volatility of real activity. Even in the 2008-2009 financial crisis, the sharp cutback in production and employment by many firms was tiny relative to the far steeper drops seen in most of their stock prices. The existence of such wide fluctuations in equity values relative to real activity raises the question of whether these swings reflect movements in intrinsic firm values. If not, then equity may be misvalued, and it is natural to wonder whether these non-fundamental movements in equity values affect managerial decisions. Put simply, does market timing occur, and how large are its effects?

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Oversight of the Financial Stability Oversight Council

Mary Jo White is Chair of the U.S. Securities and Exchange Commission. The following post is based on Chair White’s recent testimony before the United States House Committee on Financial Services, available here. The views expressed in this post are those of Chair White and do not necessarily reflect those of the Securities and Exchange Commission, the other Commissioners, or the Staff.

Thank you for inviting me to testify regarding the Financial Stability Oversight Council (Council). Below I highlight my perspective on the Council and my role on it.

The Dodd-Frank Wall Street Reform and Consumer Protection Act (Dodd-Frank Act) established the Council to provide comprehensive monitoring of the stability of our nation’s financial system. Specifically, the Council is responsible for:

  • Identifying risks to the financial stability of the United States that could arise from the material financial distress or failure—or ongoing activities—of large, interconnected bank holding companies or nonbank financial companies, or that could arise outside the financial services marketplace;
  • Promoting market discipline by eliminating expectations on the part of shareholders, creditors, and counterparties of such companies that the government will shield them from losses in the event of failure; and
  • Responding to emerging threats to the stability of the United States financial system. [1]

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Bankruptcy Versus Bailout of Socially Important Non-Financial Institutions

Shlomit Azgad-Tromer is a visiting scholar at Berkeley Law School. This post is based on the article Too Important to Fail: Bankruptcy Versus Bailout of Socially Important Non-Financial Institutions.

Systemically important financial institutions are broadly considered to pose a risk to the entire economy upon failure. Thus governments act upon their failure, providing them with an implied insurance policy for ongoing liquidity. Yet governments frequently provide de facto liquidity insurance for non-financial institutions as well. For example, recently in the U.K., 35 hospital trusts were sharing £536 million in non-repayable bailouts in order to keep services running smoothly during 2013-2014. A decade earlier, a federal bankruptcy judge approved California’s multibillion-dollar bailout of Pacific Gas & Electric Corporation. In an effort to stabilize and sustain air transportation after 9/11, the U.S. Congress passed the Air Transportation Safety and System Stabilization Act, which provided the airline industry with financial aid valued at as much as $10 billion. In all of these cases, taxpayer money was used to rescue non-financial institutions.

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Shadow Resolutions as a “No-No” in a Sound Banking Union

Luca Enriques is Allen & Overy Professor of Corporate Law at Oxford University. The following post is based on a paper co-authored by Professor Enriques and Gerard Hertig.

Credit crisis related bank bailouts and resolutions have been actively debated over the past few years. By contrast, little attention has been paid to resolution procedures being generally circumvented when banks are getting insolvent in normal times.

In fact, supervisory leniency and political considerations often result in public officials incentivizing viable banks to acquire failing banks. In our book chapter Shadow resolutions as a no-no in a sound Banking Union, published in Financial Regulation: A Transatlantic Perspective 150-166 (Ester Faia et al. eds.), Cambridge University Press, 2015, we consider this a very unfortunate approach. It weakens supervision, distorts competition and, most importantly, gives resolution a bad name.

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Regulatory Competition in Global Financial Markets

Wolf-Georg Ringe is Professor of International Commercial Law at Copenhagen Business School and at the University of Oxford. This post is based on an article authored by Professor Ringe.

The decades-long discussion on the merits of regulatory competition appears in a new light on the global financial market. There are a number of strategies that market participants use to avoid the reach of regulation, in particular by virtue of shifting trading abroad or else relocating activities or operations of financial institutions to other jurisdictions. Where this happens, such arbitrage can trigger regulatory competition between jurisdictions that may respond to the relocation of financial services (or threats to relocate) by moderating regulatory standards. Both arbitrage and regulatory competition are a reality in today’s global financial market, and the financial sector is different from their traditional fields of application: the ease of arbitrage, the fragility of banking and the risks involved are exceptional. Most importantly, regulatory arbitrage does not or only rarely occurs by actually relocating the financial institution itself abroad: rather, banking groups tend to shift trading to foreign affiliates.

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Broker-dealers: Lock in your Liquidity

Dan Ryan is Leader of the Financial Services Advisory Practice at PricewaterhouseCoopers LLP. This post is based on a PwC publication by Mr. Ryan, Adam Gilbert, Grace Vogel, Armen Meyer, and Peter Melz.

The credit crisis of 2008 highlighted the criticality of effective liquidity management and demonstrated the difficulties broker-dealers face without adequate funding sources. In response, the Financial Industry Regulatory Authority (“FINRA”) has been taking steps to impose new requirements that will impact many broker-dealers, especially those that hold inventory positions or that clear and carry customer transactions.

Following up on guidance issued in November of 2010, FINRA last month issued new liquidity risk management guidance after a year-long liquidity review of 43 member firms under a stressed environment.

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The Volcker Rule as Structural Law

John C. Coates is the John F. Cogan, Jr. Professor of Law and Economics at Harvard Law School.

In response to the 2008 financial crisis the US Congress introduced the “Volker Rule”—a novel law generally barring banking organizations from proprietary trading and investing in hedge and private equity funds. Before implementing the Volcker Rule, US governmental agencies are required by administrative law to follow specified notice-and-comment procedures, and courts have a role in enforcing an obligation that agencies not be “arbitrary” in finalizing regulations. Many continue to advocate that the financial agencies also use quantified cost-benefit analysis in doing so. In principle, ad law requirements should help the public evaluate the impact of the Rule and hold agencies accountable in exercising their discretion and delegated authority in choosing among ways to implement a legislative requirement. However, in The Volcker Rule as Structural Law: Implications for Cost-Benefit Analysis and Administrative Law, a forthcoming article in a symposium issue of the Capital Markets Law Journal that focuses on the Volcker Rule, I build on prior work published in the Yale Law Journal and Law and Contemporary Problems to argue that the effects of a structural law such as the Volcker rule and its implementation by agencies cannot be reliably or precisely quantified, and courts err when they attempt to force agencies to do so under the guise of review for procedural regularity or substantive rationality.

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UK Regulatory Proposals and Resolvability

Barnabas Reynolds is head of the global Financial Institutions Advisory & Financial Regulatory Group at Shearman & Sterling LLP. This post is based on a Shearman & Sterling client publication by Mr. Reynolds, Thomas DoneganReena Agrawal SahniJoel MossAzad AliTimothy J. Byrne, and Sylvia Favretto.

The Bank of England, the UK authority with powers to “resolve” failing banks, is consulting on how it might exercise its power of direction to remove impediments to resolvability. The Bank may require measures to be taken by a UK bank, building society or large investment firm to address a perceived obstacle to credible resolution. Concurrently, the Prudential Regulation Authority is proposing to impose a rule that would require a stay on termination or close-out of derivatives and certain other financial contracts to be contractually agreed by UK banks, building societies and investment firms with their non-EEA counterparties. This post discusses the proposed approaches by the UK regulators to ensuring that impediments to resolvability are removed, as well as certain cross-border implications.

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Corporate Risk-Taking and Public Duty

Steven L. Schwarcz is the Stanley A. Star Professor of Law & Business at Duke University School of Law. This post is based on a draft article by Professor Schwarcz, available here.

Although corporate risk-taking is economically necessary and even desirable, it can also be harmful. There is widespread agreement that excessive corporate risk-taking was one of the primary causes of the systemic collapse that caused the 2008-09 financial crisis. To avoid another devastating collapse, most financial regulation since the crisis is directed at reducing excessive corporate risk-taking by systemically important firms. Often that regulation focuses on aligning managerial and investor interests, on the assumption that investors generally would oppose excessively risky business ventures.

My article, Misalignment: Corporate Risk-Taking and Public Duty, argues that assumption is flawed. What constitutes “excessive” risk-taking depends on the observer; risk-taking is excessive from a given observer’s standpoint if, on balance, it is expected to harm that observer. As a result, the law inadvertently allows systemically important firms to engage in risk-taking ventures that are expected to benefit the firm and its investors but, because much of the systemic harm from the firm’s failure would be externalized onto other market participants as well as onto ordinary citizens impacted by an economic collapse, harm the public.

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