Regulatory Blueprint: Topic 4, Subtopic F

A PLAN!

Over the last couple of days, Timothy Geithner demonstrated that the administration does, indeed, have a regulatory reform plan. The plan’s overall design, as described in Treasury press release TG-72, identifies four goals:

• Control of systemic risk
• Protection of consumers and investors
• Elimination of gaps in the regulatory system
• International coordination

These goals are familiarly vague (Geithner avers they originate in a fuzzy speech the President delivered at the Cooper Union) until you consider what Geithner did next. He went before the House Financial Services Committee and carefully outlined concrete steps for controlling systemic risk:

1. A single regulator responsible for systemic stability
2. “Substantially” more conservative capital requirements for systemically important institutions
3. Registration of large hedge funds and their advisers.
4. A comprehensive framework of oversight and disclosure for OTC derivatives
5. New SEC rules to protect the liquidity of the money markets
6. A resolution mechanism for entities posing a systemic risk

Then he offered actual proposed legislation for step #6! The proposed “Resolution Authority for Systemically Significant Financial Companies Act of 2009” (RASSFCA?) is modeled on the FDIC’s resolution authority and is aimed at institutions that fall outside the existing FDIC regulation regime.

RASSFCA

First, although the administration's plan will probably make the Treasury Department the systemic risk regulator - the One Agency, if you will - much has been made of Geithner's refusal to identify the who will wield resolution power (Geithner Ducks Key Question, American Banker 2009 WLNR 5704049) it seems kinda obvious, doesn't it?

The proposed resolution authority bill creates a mechanism that would work this way: if, after a somewhat convoluted process of inter-agency wrangling, it can be shown that a covered institution is:

• in danger of becoming insolvent and
• its insolvency will have serious adverse effects on “economic conditions or financial stability” in the United States, and
• emergency action would mitigate those effects,

The Fed would be empowered to use a number of emergency action tools. The tools range from loaning money to placing the company in receivership so that it can be unwound (are you listening, AIG?). Insolvency is broadly defined. “Serious adverse effects” isn’t defined at all. Receivership terminates bankruptcy proceedings, the rights of stockholders, and in an emergency, Hart-Scott-Rodino.

Next?

One can only assume this is the first salvo in a legislative bombardment. Over the next few weeks, expect to see proposed legislation for each of the points on the list above. Regulation of hedge funds gets particularly in-depth treatment in recent releases, so maybe that's next?