The Impact of Government Policy and Regulation on the Financial-Services Industry.

The Impact of Government Policy and Regulation on

the Financial-Services Industry

Key Topics• The Principal Reasons for Bank and Nonbank

Financial-Services Regulation

• Major Bank and Nonbank Regulators and Laws • Emergency Economic Stabilization Act and the

Global Credit Crisis

• The Central Banking System

• Obama’s Financial Reform Plan

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Reasons for the Regulation of Banks

• Protection of the Safety of the Public’s Savings

• Control of the Supply of Money and Credit• Ensure Equal Opportunity and Fairness in

Access to Credit• Promote Public Confidence in the Financial

System• Avoid Concentration of Power• Support of Government Activities• Help for Special Segments of the Economy

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Principal Regulatory Agencies Under the Dual Banking System

•Federal Reserve System•Comptroller of the Currency•Federal Deposit Insurance Corporation•Department of Justice•Securities and Exchange Commission•State Banking Boards or Commissions

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What is Regulated? • Initial creation of depository institutions

Initial licensing and charteringLocation and number of physical branches, offices Initial board of directors and officersMinimum cash and capital requirements to open

•On-going operationsMergers and acquisitionsOpening or closing of offices, branchesMany operations proceduresWhat financial services/products may be offered

•AssetsDiversification of assetsQuality of assetsLiquidity of assetsLevel of cash reserves

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What is Regulated? –Cont. •Liabilities & equity

Types of liabilities createdDistribution of financing of assetsQuality of liability and equity accountsMinimum capital requirements

•OthersCommunity involvementDegree of market share in each market areaNon-discriminatory operating policies

•Regulatory ProcessExaminationsReportsCAMELS Rating: C apital adequacy; A sset Quality; M

anagement Quality; E arnings – amount & stability; L iquidity; S ensitivity to market risk

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Goals and Functions of Bank Regulations

• Laws Limiting Bank Lending and Risk• Laws Restricting and Expanding Services

Banks and Other Depository Institutions Can Offer

• Laws Prohibiting Discrimination in Offering Services

• Laws Mandating Increased Information Transparency and More Accurate Financial Reporting

• Laws Regulating Branch Banking• Laws Assisting Federal Agencies in Dealing

with Failing Depository Institutions

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National Banking Act (1863,1864)

•Passed During the Civil War to Help Fund the War

•Created A New Division of the Treasury, the Comptroller of the Currency

•Created National Banks with a Federal Charter

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Federal Reserve Act of 1913

•Passed After a Series of Financial Panics at the Beginning of the Century

•Created the Federal Reserve System•Gave the Fed the Authority to Act as the

Lender of Last Resort•Created to Provide a Number of Services

to Member Banks•Today the Fed Controls the Money Supply

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Glass-Steagall Act 1933

•Passed During the Great Depression•Separated Investment and Commercial

Banking•Created the FDIC•Fed Given the Power to Set Margin

Requirements•Prohibited Interest to be Paid on Checking

Accounts

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FDIC Act 1935

•Addressed the Issues Left Out of the Glass-Steagall Act

•Gave the FDIC the Power to Examine Banks and Take Necessary Action

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Social Responsibility Acts

•1968 – Full Information on Terms of Loans Must be Given

•1974 – Cannot Be Denied a Loan Based on Age, Sex, Race, National Origin or Religion

•1977 – Cannot Discriminate Based on the Neighborhood in Which Borrower Resides

•1987 and 1991 – Banks Must Disclose Full Terms on Deposit and Savings Accounts

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Depository Institution Deregulation and Monetary Control Act (DIDMCA) 1980• First of Deregulation Acts

• Phased Out Interest Rate Ceilings

• Allowed Interest to be Paid on Checking Accounts (NOW Accounts)

• Term Transaction Account Created – All Institutions with These Accounts Subject to Reserve Requirements

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Garn-St. Germain Act 1982

• Continued the Deregulation of DIDMCA

• Created Money Market Deposit Account

• FDIC Could Arrange Mergers Across State Lines if Needed

• Loan Limits were Liberalized

• Banks in Need of Capital Could Get It From the FDIC

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Competitive Equality in Banking Act (CEBA) 1987• Allowed Creation of Special Bridge Banks for

Failed Institutions

• Bridge Banks Are Special National Banks Operated by the FDIC

• Bridge Banks Created When Bank is Essential to the Community

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Financial Institutions Reform, Recovery and Enforcement Act (FIRREA) 1989• Created in Response to Large Number of Bank and

S&L Failures

• Combined FDIC and FSLIC into the FDIC and Dismantled S&L Regulatory Body

• Created the RTC to Take on the Assets of Failed S&Ls

• $50 Billion Authorized to Handle Failed Institutions (Later Increased)

• Allowed Bank Holding Companies to Purchase Savings Banks

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FDIC Improvement Act 1991

• Move Towards Re-regulating the Industry

• Requires Regulators to Take Prompt Corrective Action (PCA) When a Bank has Problems

• Prompt Corrective Action Based on the Capital Position of the Bank

• Requires Regulators to Develop New Standards for the Banks They Regulate

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Riegle-Neal Act 1994

• Riegle-Neal Interstate Banking and Branching Efficiency Act repealed provisions of the McFadden Act of 1927

• Bank Holding Company Can Acquire Banks Nationwide

• Consolidation of Interstate BHCs into Branches

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Gramm-Leach-Bliley Act 1999

• Permits Banking-Insurance-Securities Affiliations (with regulator’s approval and are well capitalized)

• Consumer Protections for Consumers Purchasing Insurance Through a Bank

• Must Disclose Policies Regarding the Sharing of Customers’ Private Information

• Customers are Allowed to ‘Opt Out’ of Private Information Sharing

• Fees for ATM Use Must be Clearly Disclosed• Identity Theft is Made a Federal Crime

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The USA Patriot Act 2001

• Requires Banks and Financial Service Providers to Establish the Identity of their Customers

• Requires Banks and Financial Service Providers to Check the Customer’s ID Against Government-Supplied Lists of Possible Terrorists and Terrorist Organizations

• Report Suspicious Activity (SARs) in Customer’s Account to the US Treasury

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Fair and Accurate Credit Transactions (FACT) Act 2003• Passed in Response to Increased Problem of

Identity Theft

• Federal Trade Commission Must Make it Easier for Consumers Victimized to File Theft Report

• Individuals and Families are Entitled to One Free Credit Report Each Year▫www.annualcreditreport.com/cra.index.jsp

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Check 21 2004

• Reduces the Need for Banks to Transport Paper Checks

• Can Provide a Customer with ‘Substitute’ Check Which Contains Image of Front and Back of Original Check

• Allows for Electronic Transmission of ‘Substitute’ Checks for Clearing of Checks

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Federal Deposit Insurance Reform Act 2005• First Significant Increase FDIC Coverage in 25

years• Raises FDIC Insurance Limits from $100,000

to $250,000 for Retirement Accounts• Federal Regulators are Empowered to

Periodically Adjust Deposit Insurance Limits for Inflation

• Merges Bank Insurance Fund (BIF) and Savings Association Insurance Funds (SIF) into Single Deposit Insurance Fund (DIF)

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Emergency Economic Stabilization Act of 2008• Passed in Response to Home Mortgage and

Financial System Problems

• Temporarily Increases FDIC Deposit Insurance Coverage from $100,000 to $250,000 for All Deposits until Year-end 2009

• Allows the US Treasury to Add Capital to Banks to Enhance Lending▫www.treas.gov/press/releases/hp871.htm

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Unresolved Regulatory Issues

• Does the regulatory safety net set up to protect small depositors encourage financial firms to take on added risk?

• Does deregulation exacerbate the too-big-to-fail problem?

• As firms become larger and more complex, can the government regulators effectively oversee what these firms are doing? Can we simplify the current regulatory structure?

• What is functional regulation and will it really work under the current structure?

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Regulating Nonbank Financial-Service

• Credit Unions ▫ National Credit Union

Administration

• Savings Associations ▫ Office of Thrift

Supervision

• Money Market Funds ▫ Securities and Exchange

Commission

• Insurance Companies▫ State Insurance

Commissions

• Finance Companies ▫ State Governments

• Mutual Funds▫ Securities and

Exchange Commission

• Securities Brokers and Dealers▫ Securities and

Exchange Commission

• Financial Conglomerates▫ Functional Regulation

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The Federal Reserve System

•Fundamental Functions Conduct monetary policy Provide and maintain the payments system Supervise and regulate banking operations

•Organization▫Board of Governors▫Federal Open Market Committee▫12 Federal Reserve Banks▫Member Banks

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The Federal Reserve Policy Tools▫Monetary Policy Tools

Open Market Operations (OMO)

Discount Rate

Reserve Requirements

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European Central Bank

•Central Policy is to Maintain Price Stability

•Structure is Similar to the Federal Reserve

•Eleven Member Nations

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Obama’s Financial Reform Plan• For the regulation of financial firms, the

proposal: Ensures that any financial firm big enough to pose a risk to the

financial system would be heavily regulated by the Federal Reserve, including regular stress tests.

the Treasury will re-examine capital standards for banks and bank-holding companies.

Tells regulators to issue guidelines on executive compensation, with the goal of aligning pay with long-term shareholder value, including a re-examination of the utility of golden parachutes.

Creates a new bank agency, the National Bank Supervisor, and kills the Office of Thrift Supervision. The new agency will look over national banks, including federal branches and agencies of foreign banks.

Requires hedge funds, private-equity funds and venture-capital funds to register with the SEC, allowing the agency to collect data from the firms.

Urges the SEC to give directors of money-market mutual funds the power to suspend redemptions, and take other action to strengthen regulation of money-market mutual funds to prevent runs.

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Obama’s Financial Reform Plan• For the regulation of financial markets, the

proposal: Brings the markets for over-the-counter derivatives and

asset-backed securities into a regulatory framework, strengthens regulation of derivatives dealers and forces trades to be executed through public counterparties, such as exchanges

Requires that originators, for example, mortgage brokers, should retain some economic interest in securitized products.

Urges the SEC to continue its efforts to improve the transparency and standardization of securitization markets

Urges the SEC to strengthen its regulation of credit-rating firms.

Tells regulators to reduce their reliance on credit-rating firms.

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Obama’s Financial Reform Plan• For regulations protecting consumers and

investors, the proposal: Creates a new agency, the Consumer Financial Protection

Agency, with broad authority over consumer-oriented financial products, such as mortgages and credit cards. The new agency would work with state regulators.

Requires non-binding shareholder votes on executive compensation packages.

• To give the government more tools to manage crises, the proposal:

Creates a mechanism that allows the government to take over and unwind large, failing financial institutions.

• In the international sphere, the proposal: Improve the quality, quantity, and international

consistency of capital. Improve cooperation on supervision of globally

interconnected financial firms.

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