12.21.2011
By Terry Flanagan

Asset Managers Assail Treasury Proposal

Financial Stability Oversight Council to determine whether nonbank financial companies should be subject to Fed oversight.

Asset managers are striking back at a proposal by the U.S. Treasury which could place them under the supervision of the Board of Governors of the Federal Reserve, under authority which Treasury claims it’s been granted under the Dodd-Frank Act.

FinReg authorizes the Financial Stability Oversight Council (FSOC) to determine that a nonbank financial company will be supervised by the Board of Governors and be subject to prudential standards if two standards are met.

Under the first standard, the FSOC may subject a nonbank financial company to Fed supervision if it determines that “material financial distress” at the company could pose a threat to the financial stability of the United States.

Under the second standard, the FSOC may make a determination based on the nature, scope, size, scale, concentration, interconnectedness or mix of the company’s activities.

Asset managers contend that they’re already subject to supervision and that their business activities don’t pose threats to the stability of the financial system.

“The business model of asset managers makes them less likely to become subject to financial distress and unlikely to impact the broader economy even in such circumstances,” said a comment letter from BlackRock.

“Further, in the unlikely event of financial distress, asset managers are readily resolvable without adversely impacting U.S. financial stability,” said BlackRock.

The FSOC should allow evolving reforms to be implemented “before deciding to impose a banking model of regulation on asset managers,” said BlackRock.

Internal regulators and bank supervisors are mapping out plans to both reduce the risk of a large bank failure, and to limit the damage to the financial system when a failure occurs.

The Basel Committee on Banking Supervision (BCBS) has issued rules on the assessment methodology for global systemic importance, the magnitude of additional loss absorbency that global systemically-important financial institutions should have, and the arrangements by which they will be phased in.

Whether and to what extent these rules are put in place depends in large part on how they comport with national legislation, in particular Dodd-Frank.

Titles I and II of Dodd-Frank deal with supervisory and prudential standards for systemically-important financial institutions, and resolution of failed financial institutions, respectively.

The rationale for the new rules is to deal with the cross-border “negative externalities” created by global systemically-important banks which current regulatory policies do not fully address, according to the BCBS.  The measures will enhance the going-concern loss absorbency of G-SIBs and reduce the probability of their failure.

Some have questioned Treasury’s legal authority to make such determinations.

While the Dodd-Frank Act authorizes the FSOC to issue such rules as may be necessary for the conduct of its business, FinReg does not specifically authorize the FSOC to issue rules or regulations regarding determinations concerning nonbank financial companies.

Congress expressly authorized the Board of Governors, not the FSOC, to adopt substantive rules under Dodd-Frank, said a letter from Dechert LLP, which represents asset amazement firms.

“The Council does not have the legal authority to promulgate substantive rules with regard to the designation of systemically important financial institutions,” said Dechert.

In an appendix to the proposed rule, the FSOC issued “guidance” for nonbank financial company determinations.

The guidance outlines a three-stage process of increasingly in-depth evaluation leading to a determination.

In Stage 1, a set of uniform quantitative metrics will be applied to a broad group of companies in order to identify companies for further evaluation.

In Stage 2, those companies identified in Stage 1 will be analyzed and prioritized, based information available to the FSOC through public and regulatory sources.

Stage 3 will involve the evaluation of information collected directly from the nonbank financial company.

The issuance of the guidance “compounds the uncertainty created by the Council’s decision not to address the issues regarding its legal authority,” said Dechert, adding that the guidance was “an unexplained and undefined concept.”

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